LNG Downstream

Implications: There is far more U.S. regas capacity than necessary. This is somewhat true world-wide, but for a different reason - There are seasonal demand days in Spain, Japan, Korea, Taiwan, etc. when they do need all the regas, and that capacity was built for those days. Supply is king, and will be until about 2013. LNG production increases are way behind schedule almost everywhere, for a number of reasons. LNG Shipping will be very week for the next few years.

Analysis: By the end of 2008 there will be almost 12 bcf/d of U.S. regas capacity; to date the U.S. has never used more than about 3.8. Until this year all this capacity had long-term supply contracted. The reality that suppliers often sold their cargoes into higher value markets did not invalidate the reasoning for their regas capacity. It was the supplier-held regas capacity that allowed them to secure longterm supply in the first place, and the economics of spot diversions to higher value markets covered the regas capacity costs, as well as the cost of any sale unwind or gas replacement in the U.S.

When markets like Japan, Taiwan and Korea do not need gas, they do not buy, regardless of prices. But those markets are without alternative gas supply and limited storage, so when they require gas they must pay whatever price it takes to attract diversions. And until the world LNG supply-demand balance shifts from the present deficit, the U.S. will remain the market of last resort.

The good news for buyers is that most of today's LNG projects contemplated gas prices in the $4 per mmbtu range. Not too long ago CNOOC purchased LNG delivered into China below $4. Even at these prices, investment in the projects made economic sense.  So while project costs of risen dramatically due to exchange rates and higher material and EPC costs, gas prices are now being negotiated well above $10, practically crude parity. So many of the  planned projects that yielded marginal investment returns a couple of years ago now look quite attractive.

Also, there have been some technological advances that make previously unattractive projects look promising. Coal seam methane in Australia suddenly makes sense. There is a push now for floating liquefaction projects to exploit fields that were earlier considered too small. And some of the mega trains such as in Qatar are now thought by some experts to be capable of producing up to 9 mtpa, not the contractual 7.8 mtpa. By 2013 there will be more trains in Indonesia, Yemen, Russia, Australia, Papa New Guinea, Peru, Qatar, and Algeria.

But between now and then, the two weak links in the LNG chain are regas capacity in the U.S. and Europe, and shipping. Sempra's Costa Azul plant supplying SoCal will see little gas, but Shell and BP will keep them whole, as will Conocophillips and Dow at Freeport. But the other terminals should see limited gas, and companies like Cheniere will be exposed.

On the shipping side, there are more than enough ships to move the world's LNG in 2008, and more are delivering ahead of their intended delayed projects.  So the world fleet will be seriously underutilized for a 3-4 year period. Additionally, the cost of operating LNG ships continues to climb much faster than anticipated due primarily to higher crewing costs. This is already impacting companies such as Teekay and Golar.

Those companies that can wait out the next few lean years will be in a position to profit downstream from LNG. Those that cannot, will not.