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    LNG eyes new models [NGW Magazine]


As gas markets liberalise, the conflicting demands of traditional lenders clash with the needs of traders trying to develop capital-intensive projects such as gas liquefaction.

[NGW Magazine Volume 4, Issue 4]

by: Tim Gosling

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Top Stories, Premium, NGW Magazine Articles, Volume 4, Issue 4, Market News, Liquefied Natural Gas (LNG)

LNG eyes new models [NGW Magazine]

LNG has freed gas from its pipeline prison and opened the way for new ways of producing and trading the fuel in fresh territories. The possibilities are myriad, which is a lot of uncertainty for the money men to mull.

Built by global majors or sovereigns, most operating LNG projects have remained funded using traditional models. European and Asian utilities with strong credit ratings, traditional price schemes and a fistful of 20-year contracts have made for happy banks.

They are yet to accept new conditions. “Lenders still have a strong preference for oil indexation,” says Andrew Seck, vice president for LNG marketing & shipping at Anadarko. His company is operating the first Mozambique LNG project, with a series of long-term offtake agreements inked conditional on final investment decision. 

However, rising supply and an increasingly active spot market means customers are becoming less keen on oil-indexed pricing and long-term take off contracts. That is driving smaller and independent developers, and projects in emerging markets, to seek new financing models. 

“Many of the pillars are being eroded,” says Gary Regan, consultant manager at Gas Strategies. “The new wave of buyers is less financially strong and less able to stand behind contracts in bad market conditions. It is harder to look through the value chain and predict the strength of demand.”

Producers are increasingly working with smaller counterparties, who are often unwilling to sign long-term contracts. Even if they do, the banks, who used to happily hand out cash to projects with 80% or more of their output already accounted for by large customers, may not be comfortable with the lower credit ratings. 

“We’re waiting to see what happens. From 2012 to 2015, we provided $40bn [of project financing] on the back of tolling agreements and LNG price contracts,” Roberto Simon, SocGen’s New York-based managing director in charge of project and energy finance in the Americas told a conference last year. “Now we’re being told that we are no longer going to get these.” 

For many projects, accessing debt is becoming tougher. With borrowers smaller and cash flows less certain, the banks are less willing to take on risk. Borrowers aren’t going to get lenders taking on a half anymore, says Simon. A tenth is more realistic.

That leaves projects more dependent on equity for funding, which is more expensive. That has project sponsors, funders, and customers mulling the future of financing volumes, structures and sources.

“Smaller projects in Asia and other less developed regions are facing lots of challenges,” says an independent energy lawyer Richard Tyler, until January a partner at Hogan Lovells. “Project sponsors and equity providers will need to work with those projects to help them access financing.” 

Experimenting in the US lab

Some in more developed markets are keen to experiment, but they are finding the going tough. Houston-based Tellurian aims to raise $8bn in equity financing, and borrow another $20bn, to power its 27.6mn mt/yr Driftwood LNG terminal in Louisiana and associated upstream and infrastructure. The project plans to tempt customers to invest in equity by allowing them to book low cost LNG flows in advance.

“We’re very different from our competition. We believe in the commoditisation of LNG,” says Anita Orban, vice president for international affairs. “We are introducing the integrated model to US, which means upstream fields, pipeline infrastructure and a terminal.” 

Tellurian has bought around 10,000 acres to drill for shale gas. “This gives us option of delivering LNG at lower costs,” Orban claims. “Equity partners will buy the gas at the cost of production, transportation and liquefaction.”

Tellurian – co-founded by Martin Houston, who is credited with building BG’s merchant LNG model, and Charif Souki after he was ousted from Cheniere – aims for an FID in the first half of 2019 and to start producing LNG in 2023. Partners include Total, General Electric, and Bechtel, and the Houston-based company says it is in talks with over 30 more potential equity partners.

However, the project has had to lower its ambition. The $8bn equity funding target is a sharp pullback from the original plan to attract $24bn. Tellurian has said the structure reflects “requests by the partners,” illustrating the difficulties of adopting new financing models.

The change, which came in October last year, means equity partners will be able to buy in for $500/mt rather than the original $1,500, while the cost of deliveries from the terminal will rise from $3/mn Btu to $4.50/mn Btu. 

Pushed by emerging market risk

Tellurian’s membership of the “second wave” of US LNG allows it to experiment with the financing model; project developers heading into less charted waters have no choice. 

In less stable environments, even traditional oil-linked pricing and long-term contracts aren’t necessarily enough to convince the banks to take on the lion’s share of the risk.

“You need the long-term contracts otherwise the lenders don’t want to know,” says Seck of Anadarko’s Mozambique LNG project. However, the developer is only targeting around two-thirds of project financing via debt. 

Emerging markets raise the risk profile for the banks. “Contracts and so on are completely overshadowed by country risk,” said Paul Eardley-Taylor, from the Southern Africa Oil & Gas Unit at Standard Bank.

“Lenders need to be convinced the developers have the size and organisation to solve the problems that crop up in some of these places,” adds Eric Rasmussen, director natural resources at the European Bank for Reconstruction and Development (EBRD). “You may have all the great documentation in place, but then the government changes and the next day the new guys turn up with some very strange demands.” 

Anadarko expects to take a final investment decision on its Mozambique LNG project in the first half of 2019, Seck confirmed. The terminal will serve up LNG from the 12bn barrel equivalent Golfinho/Atum offshore fields. 

Anadarko is racing an Eni-ExxonMobil led project, Rovuma LNG, to be first. Rovuma will sell its output through its partners, rather than lining up external offtakers to secure financing, a model that was adopted by LNG Canada last year when it announced FID. Rovuma too expects to take a FID in the coming months.

In early February, Anadarko announced sale and purchase agreements with partners including Shell, Tokyo Gas and Centrica, the latter two splitting deliveries between them on a delivery ex-ship contract. He said Mozambique LNG has been offering tailor-made contracts to prospective buyers that include destination-free and flexibility terms, attracting considerable interest. And even though lenders prefer oil-indexed contracts, they have accepted some exposure to hub-based pricing. The project is progressing at full speed, with FID expected first half of 2019 – there might even be good news later in February.

A contract to supply 1.5mn mt/yr to China’s largest LNG importer Cnooc, will run for 13 years. Indian state-owned BPCL, which holds a 10% stake in Mozambique LNG1 has said it plans to ship 1mn mt/year of LNG to India. 

That this list is filled by giants and sovereigns is no coincidence. Working in eastern Africa, Anadarko needs not just customers to keep the banks happy, but the right customers.

“Any contract with any company that has an investment grade is beneficial,” says Eardley-Taylor.

However, he also notes the rapid effect that LNG project development has had on credit ratings in other parts of the globe.

“Eventually, the rest of the world’s investment grades will help grow Africa,” the banker suggests. “Smarter players will be looking at the previous history of the likes of Qatar and applying it to the likes of Mozambique.” 

Tradition digs its claws in 

Despite the newer financing structures of Driftwood and Mozambique LNG, growing liquidity of the LNG market and increasing focus on spot markets by smaller customers, lenders remain wary. A healthy stock of take-off contracts from high-quality customers remains the mantra, and such business is busy.

“Long term contracts are not dead,” states Regan. “I think there’s enough strong projects out there that lenders won’t need to make many hugely significant changes. The flexibility being demanded by buyers is being held by the suppliers, For the meantime, it’s not being taken on by the lenders.” 

“It’s clear if you want debt financing you still need to build up a quality portfolio of contracts,” adds Tyler. “Many long-term off-take contracts have been signed recently after a period when they weren’t being. Don’t expect a rapid transformation of financing. It will be baby steps.” 

Vice president of strategy and communications for US LNG pioneer Cheniere, Andrew Walker is also unconvinced that traditional financing models are on the way out, or that equity partnerships are set to mould the future.

“We’ll see both equity and lending financed projects going forwards, but I’m sceptical that lots [of equity partnerships] can happen; the volume of risk means traditional models will continue,” he predicts. “Our view is let the industry experts do their job and buyers should put their equity elsewhere.” 

Anadarko is also somewhat dubious about the spread of equity financing. There is a risk that unless there is more demand than supply at the time of project delivery, the equity partners will be competing between themselves for the same customers.

“The reason we have a raft of FIDs now is because the industry sees a gap in the market for 2025 and is racing to fill it,” says Seck. “But if a lot of that LNG is marketed in an equity market then you’re kicking the can down the road. 

“The buyers will likely be very happy, but we prefer the traditional route,” he continues. “And what If someone is sitting on a large portfolio of LNG equity partnerships. They may get a nasty shock if all these projects come online and there’s a glut.” 

The level of risk being bought up by major players is also an issue for Walker. “With equity we’re loading all these projects onto the balance sheets of a few players,” he points out. “How much can the likes of Shell and the other seven or so companies capable of doing this globally take on?”

As so often, however, when it comes to LNG, China is viewed as a wild card. “In general, well-established Western project developers will get debt financing and international oil companies can act as their own off-takers, says Tyler. “But there will be projects that can access Chinese finance. That’s an alternative that will push through some others.”