Myths and realities shaping LNG
Oil & Gas Investor, April issue, Supplement: America's Independent
By Frederick J Lawrence, Director of Economics & International Projects, IPAA
Picture this scenario. It's winter 2003-2004 and domestic natural gas supplies are tight as a drum. Storage is testing record lows, the Arctic fronts are swooping in from the north and Canadian exports are woefully unable to keep up. Stranded local utility systems need additions desperately. Or, the scenario could be summer of 2003 with low inventories, record heat, and the threat of blackouts. Markets are desperately seeking peaking fuel. An answer to your plight is liquefied natural gas (LNG). But there's a catch.
LNG has reinvented Itself.
Politics, economics, and international affairs have awoken LNG from its slumber to solidly position the fuel into the hopes and dreams of America's developing energy strategy. Tightening supply and demand fundamentals have merged with geopolitical events to heighten the visibility, scope, and expectations of LNG. Some believe LNG constitutes the panacea of our natural gas (im)balance while others exhibit casual disregard as it currently represents only a token share of our total natural gas supply. Now that we have resuscitated this fuel, its imperative to understand the why, how, and when. It is far better to understand these parameters, before there's a crisis.
One thing is for certain. LNG is assured a prominent role in the United State's supply situation. Bridging the ends with the means will be the tricky part. As Philippe van Marcke, of Tractebel Electricity & Gas International, recently affirmed, LNG has progressed from 'new idea' to 'attractive alternative' to 'fait accompli'. He also reminded the audience at a recent CERA conference that 'LNG is not a commodity but just a means of transportation.' The logistics and processing technologies involved in this ever-globalizing natural gas market require unique cost and contract benchmarks, capital and infrastructure, and access. The calculus of our natural gas supply and demand begs for solutions to this impressive array of hurdles.
The IPAA Supply and Demand Committee recently ranked LNG as the eighth, fourth, and sixth most critical priority issues for the U.S. oil and gas outlook for the next two-year, five-year, and ten-year time frames, respectively.
Regarding the international oil and natural gas outlook for similar horizons, LNG factored in as the ninth priority issue for the ten-year period. LNG is internationalizing what were once regional gas markets. At a recent integrated oil company's analyst meeting, a CEO warned of America's natural gas import dependence moving in the direction of this country's oil import dependence.
Canada's surplus natural gas has limits. The increased attention paid to LNG is in part the result of Canada lacking the ability to significantly grow its exports to the U.S. Near-term declines in Canada's production and export capacity are anticipated until Sable Island's eventual supply contribution. Attrition has characterized our own natural gas production, which has been struggling to preserve the status quo with ever-increasing decline curves, more challenged prospectivity of exploration plays, reduced rig productivity, and decreasing levels of exploratory drilling and reserve to production ratios.
We're not winning the supply and demand race that the last National Petroleum Council report portrayed so vividly. The U.S. must contend with projected natural gas production shortfalls of almost three percent in 2002. Reserves are exchanging hands but exploratory and newfields keep plummetting. Given the continued return of the U.S. economy to the pre-9/11 trend, demand has yet to really rear its ugly head. Prices currently support sustainable LNG imports unless demand destruction intrudes. All this makes LNG convenient. As a peaking and storage-friendly fuel, LNG offers an obvious answer regarding incremental supply but the scale of our capacity and the timeline for projected growth warrant attention.
The problem is that if it's so good, then everyone will want it. Given LNG's increased role in the volatile and expanding natural gas market, it is necessary to adjust our expectations according to the developing global LNG markets, net U.S. supply situation, and to our energy demand projections. There's competition both in global (Atlantic and Pacific Basins) and regional markets for this fuel. Japan's nuclear shortfall and China's import vulnerability underscore LNG's premium as a swing fuel of last resort. Global LNG deliveries grew almost 12 percent in 2000 due to weather and economic factors before sliding to three percent growth in 2001 as energy demand dropped precipitously. Projections of up to 1 billion cubic feet per day (bcf/day) have been made for U.S. imports in 2003. However, our current net supply of LNG comprises only 0.7 percent of our total natural gas demand.
The price is right and the market is competitive.
The price expectations that will sustain LNG growth have become increasingly firm after the sea change that has occurred with natural gas over the past few years. The $3.50-$4.00 per million cubic feet (Mcf) level is looking quite strong over the near-to-medium term but long-term LNG contracts remain essential in the continued build-up of both global and regional LNG infrastructure. The next five to seven years probably will support a higher price floor until Arctic natural gas and LNG combine to substantially shore up U.S. supply. LNG arbitrage looks to grow, especially in the Atlantic market, as more countries look to spot deals to make up for seasonal demand shortfalls. Spot cargoes provide a just-in-time solution but the stability of long-term contracts and price confidence are ultimately necessary for building terminals and tankers.
Similar to our crude import situation but at a much smaller scale, diversification amongst global LNG suppliers has grown in recent years. Long-term Algerian supply contracts have been supplemented by short-term, spot cargoes from Qatar, Oman, Nigeria, and Australia. More importantly to the U.S. and European markets, a major Caribbean LNG liquefaction effort has been developing in Trinidad & Tobago. Two trains are currently in operation with a third set to begin operations later this year. In addition, several more trains are projected in the next few years. The upside involves the increasing ability of LNG to compete globally with more confidence in prices. The downside involves the greater number of countries who are finding themselves more dependent on limited LNG supplies for the fulfillment of their energy slate.
The Mexico Factor
LNG plus U.S. exports to Mexico equals zero, or just about. U.S. natural gas exports to Mexico are eating up incremental LNG supply gains. The dilution of LNG's net contribution to our supply situation caused by our steadily rising natural gas exports to Mexico illustrates the interaction of the global gas market with regional markets. Between 2000 and 2002, the year-to-date increase in U.S. LNG imports has roughly equaled the increase in U.S. natural gas exports to Mexico. As 'LNG vs. Exports to Mexico' chart illustrates, we're running to stay in place; just like our domestic gas production.
Marshall Adkins of Raymond James has warned of the 'offset' created by our natural gas trade balance with our neighbor to the south. Mexico's demand overtook supply in 1988 and has yet to look back. During the interim there has been impressive growth in natural gas-fired power plants and the elimination of tariffs on U.S. natural gas in 1999 spurred U.S. exports. In 2000, almost eight percent of the countrys natural gas demand was met through U.S. exports. U.S. exports have grown to average 22 bcf per month in 2002, almost doubling comparable 2000 levels.
The situation does not look to change in the near term with Mexican natural gas demand projected to grow eight percent annually through 2010, effectively doubling Mexico's consumption between 2000-2010. Despite the anticipated growth of Mexican regasification projects, forecasts now indicate that Mexico will remain a net importer of U.S. natural gas until 2019, further tightening our own natural gas balance as we continue to grow our consumption.
LNG supply will be tested in the next two decades
The long-term supply and demand forecast shows U.S. natural gas consumption growing by an average of 1.8 percent between 2001 (22.7 tcf) and 2025 (34.9 tcf) and production expected to grow by an average of 1.3 percent over the same time period. LNG will be increasingly hard-pressed to be the swing supply source.
According to the Energy Information Administration's 2003 Annual Energy Outlook, LNG imports are not expected to approach one tcf in annual volumes until the 2010-2012 time period - at which point our total natural gas demand will have grown almost 5 tcf to a projected range of 27-29 tcf. Over the longer term, our country's overall imports are projected to grow from the current 3.7 tcf-level (16 percent of total demand) to almost eight tcf (22 percent of total demand) by 2025. LNG is projected to grow by an average of 11 percent per year between 2001-2025 to reach a level of 2.14 tcf by 2025 or almost 28 percent of our net imports and over six percent of our total natural gas supply.
As the supply and demand balance reveals, the timeline is crucial in understanding LNG's incremental saturation in U.S. natural gas markets. The Federal Energy Regulatory Commission Chairman Patrick Wood III noted last October that our current terminals could not handle anticipated demand.
Three of our four existing LNG import terminals are currently operating at approximately 1.7 bcf/d of base load capacity The fourth terminal, Cove Point, will open in the second quarter of this year and it will add an additional 0.75 bcf/d of capacity Approved expansions at two of the existing terminals, Elba Island and Lake Charles, will increase firm capacity to 3.4 bcf/d. Due to the under-utilization of U.S. regasification capacity as a result of the global LNG squeeze this last winter, capacity stands at four percent of U.S. demand while utilization is only 1.5 percent of U.S. demand. By 2005, it is estimated that there will be sufficient LNG regasification capacity to meet 7.7 percent of U.S. gas demand base load.
Easier said than done as no one seems to want a regasification plant in their back yard. The daunting regulatory, permitting, and siting issues have combined with security concerns, adding considerably to the traditionally onerous capital and investment requirements. The supply and infrastructure response will take at least four years before possibly catching up with the demand and price thresholds that have signaled the need for an expanded LNG supply. Prospective regasification plants may be built in Baja, California and Tampico, Mexico, and other Gulf Coast locations are being considered.
New ideas and remedies for U.S. natural gas deliverability.
New infrastructure strategies, such as offshore delivery terminals, will help lessen the security risks in regard to terrorism or sabotage. As a peaking fuel, LNG offers a comparative advantage over other fuels as it can be stored until required by local utilities or transported by truck to markets that are more remote by way of pipeline or short in underground storage, such as the Northeast. Niche utilization, such as propane replacement and vehicular fuel, provide other benefits of this multi-use fuel. Satellite terminals are also being utilized to provide base load supply to stranded utilities unconnected to pipeline grids.
LNG provides an add-on filip that can make a real difference - for the producer and the consumer. The growth of the North American LNG market will undoubtedly require ample amounts of capital, access to sites and infrastructure, and security assurances as market hubs expand. The result is more access to energy, whether for country, region, or end-user. These domestic challenges and benefits encourage international opportunities for independents that have become increasingly active in the exploitation and delivery of what was once remote and stranded natural gas.
The LNG phenomenon will take time to develop. In regard to our developing natural gas picture, continued focus on our supply options is imperative. Lower48, offshore, Rocky Mountain, and unconventional natural gas will continue to constitute the bulk of our supply for decades to come. Help is on the way with our LNG infrastructure out of mothballs and a revival that offers proposals for over 20 new import facilities. Fitting LNG into our comprehensive natural gas puzzle as this market becomes more international, diversified, and competitive is our job. We need to make LNG work for us. |
