Heard on the Street

Cheap Oil Burns Global Gas

The U.S. may boast some of the most competitive LNG projects. Here, the Cove Point LNG terminal at Cove Point in Calvert County, Md.  Associated Press 

By Abheek Bhattacharya  
 
The shale gas boom already muddied the waters for the world’s liquefied natural gas producers. Now, shale oil is really churning them up.

LNG prices are usually set via a formula that links them to a basket of oil products, especially in the biggest market, Asia. So the drop in Brent crude prices, due in part to the continuing surge of U.S. shale-derived supply, is a problem for the LNG industry. The price of spot LNG cargoes set to be delivered to Japan and South Korea has fallen 20% in the past month to $11.5 per million British thermal units, according to Platts. Even when LNG isn’t priced in this way, cheaper oil discourages demand by offering a more competitive substitute, says Wood Mackenzie’s Noel Tomnay.

The projects most at risk are those under development in Australia. These are vast, integrated LNG sites that both extract gas and liquefy it, and then sell it at oil-linked prices on long-term contracts. Technically complex and reliant on expensive labor, these projects typically need gas prices between $14 per million BTU and $18 per million BTU to generate sufficient returns, according to data from Goldman Sachs Group Inc.

So if prices stay low, companies that have begun building projects will have to live with poor returns. These include Sydney-listed Santos Ltd., which stretched its balance sheet partly to build the Gladstone facility that requires prices of about $17 per million BTU.

Those who haven’t started building may think twice about sinking capital in. Even before oil prices fell, the prospect of cheap LNG exports from the U.S., on the back of high shale gas supply, was making many planned projects uncompetitive.

Woodside Petroleum Ltd. abandoned its onshore Browse project in Australia last year. Its alternative plan to construct a floating LNG facility offshore still seems uneconomical, requiring prices of more than $13 per million BTU. Royal Dutch Shell PLC’s Arrow plant in eastern Australia, which would use gas from coal seams, may also not go ahead.

Canadian projects are next in the firing line. The Pacific NorthWest facility proposed by Malaysia’s Petroliam Nasional Bhd, for example, requires an LNG price of $13 per million BTU, according to Goldman.

In contrast, the U.S. may boast some of the most competitive projects. Not only are their prices not oil-linked, these facilities operate more like tolling stations. They buy cheap gas from U.S. producers and charge a fixed fee for liquefaction.

Cheniere Energy Inc.’s Sabine Pass terminal in Louisiana can sustain itself at an overall LNG price of $11 per million BTU, according to Goldman—and even lower if the U.S. gas glut keeps domestic prices down.

Lower oil-linked LNG prices erode the competitive edge for U.S. LNG exports, but the U.S. business model means it still has greater resilience. That is especially the case if higher-cost Australian or Canadian projects get shelved and curb future supply, says Eurasia Group’s Leslie Palti-Guzman. Having roiled the waters for everyone else, U.S. LNG may enjoy relatively smooth sailing.

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