[NGW Magazine] Russian giants to fight it out
This article is featured in NGW Magazine Volume 2, Issue 11
By Kamil Sobczak
Privately-owned Novatek is expected in June to bid for more Yamal reserves to supply a second LNG project, leaving state-run Gazprom exposed to competition in Europe.
Russia’s LNG export strategy could go in one of two directions, depending on whether or not the government decides to accelerate it. Russia started its LNG exports almost 15 years after today’s leaders in LNG trade. The present market leader, Qatar, exported LNG to 25 countries last year, and its share of global LNG was more than 31.8 %. Russia by contrast has been selling LNG to four countries and its share was about 4.5 %.
One of the reasons why Russia waited so long before exporting LNG may be that it was focused on its big pipeline projects in Europe and Asia. Regardless of the disagreements concerning the North Stream 2 project, Europe will remain the most important buyer of Russian gas.
According to a document by the Energy Research Institute of the Russian Academy of Sciences (ERI RAS), titled Energy Outlook. The World and Russia 2016, by 2040 gas exports to Europe will constitute 52-56% of the total amount of Russian gas intended for export and even in the best case scenario, all of Russia’s LNG exports will constitute only 40% of the whole amount of gas at present exported to Europe. Some of this LNG will be delivered to European countries. In 2016 Russia exported 178.3bn m³ of natural gas and plans to increase this to 368.8bn m³ by 2035
For Russia LNG could be the most prospective and, in fact, the only new way to increase sales of gas. Many experts argue that the development of Russia’s LNG sector might not only give it access to new remote niche markets, but also develop LNG as a motor fuel in Russia and diversify gas supplies to Europe.
Three operators, two projects, one tussle
There are nine possible LNG projects in Russia with combined production of more than 120mn mt/yr, operated by Gazprom, Novatek and Rosneft. But bringing these on line is proving slow. Only Sakhalin 2 is finished although the Yamal LNG project, which also has foreign investors Total –itself a shareholder in Novatek – is at the final stage of construction.
At present, Sakhalin Energy Investment has the only working liquefaction plant. It has 11 contracts with China, Japan, Korea and Taiwan which enabled the final investment decision. Gazprom, the operator, also sells spot cargoes. Output is 10.92mn metric tons/yr, compared with nameplate capacity of 9.6mn mt/yr.
Many believe that Russia is able to fill the gaps in world LNG demand by developing LNG production in the first half of the next decade. According to ERI RAS, in one realistic scenario Russia will export less than 50bn m³/yr of gas as LNG whereas in a favourable one, it might be as much as 80-90bn m³/yr. These forecasts may underestimate the real potential, because Gazprom alone is planning to have 14%-15% share of the global LNG market by 2030, when the total volume is expected to be 490mn-580mn mt/yr.
Besides Sakhalin 2, Gazprom is working on two other parallel projects: Vladivostok LNG and Baltic LNG. Vladivostok LNG is a project with an annual capacity of 10m mt/yr but Gazprom is not giving it a major priority.
The other, Baltic LNG, is a plant project with a capacity amount up to 10mn mt/yr that will cost $11.5bn. The project is primarily targeted at Europe (especially Spain, Portugal and Great Britain), India and Latin America and its launch is planned for 2023-2024. The president of Shell Russia, Olivier Lazar, said in March 2017 that the project needed support from the government, in a similar way to Novatek’s Yamal LNG, where sanctions prevented long-term finance from the west.
Gazprom is rescheduling the start of its projects: Baltic LNG was supposed to start in December 2021, the third phase of Sakhalin 2, which would boost output to 15mn mt/yr has been postponed to 2023-2024, The feasibility study has taken longer than expected and the final investment decision, due in the second half of this year, is likely to slip into 2018.
Novatek needs lower costs for Arctic
Privately-owned Novatek has been making more aggressive progress with LNG than Gazprom. The company notionally has two LNG projects: Yamal LNG and Arctic LNG 2. The realisation of the first one is at an advanced stage and this is the first Russian LNG project inside the Arctic Circle. Its budget is about $27bn although financing was delayed by US and Russian sanctions.
On 27 April 2017 Novatek held a presentation of the Yamal LNG project and said the implementation of the first phase is 91% complete and it will be finished in the second half of this year. Novatek’s partners have been of invaluable assistance. China National Petroleum Corp has contracted to buy 3mn mt/yr of LNG; French Total brought its experience and know-how and stuck with it even after US and EU sanctions were imposed on Novatek; Silk Road Fund paid $1.207bn for its 9.9% stake and it helped it raise $12bn from Chinese banks.
Yamal LNG has two routes, a summer route to Asia through the Arctic Sea, and a winter one to Europe where LNG will be offloaded in Zeebrugge LNG terminal and stored for transhipment. The contract with Fluxys LNG should last for 20 years and cover 8mn mt/yr. It underpins the building of a new large storage tank at Zeebrugge.
The first dedicated icebreaker LNG carrier Christophe de Margerie – named after the previous CEO of Total, who developed the Yamal initiative with Novatek – was tested in extreme conditions during sea trials in 2016.
First volumes from Train 1 are expected in November 2017 and the start of long-term supplies is planned for 2018. If everything goes as planned, Yamal LNG will be the largest LNG project in Russia.
As for the second project named Arctic LNG 2 – Yamal LNG presumably being also known as Arctic LNG – for which pre-front-end engineering and design was completed in 2016 – Novatek has great ambitions and according to Novatek’s CEO speech in March 2017 at a forum on “The Arctic – a territory of dialogue” the company expects to have it finished by 2022-2023. The month before, Novatek suggested it would be later, in 2022-2024. The project’s budget is primarily $10bn and will have a capacity of 12-18mn mt/yr but the company is trying to find ways to make it cheaper than its precursor, such as building a gravity-based system rather than sinking piles into the frozen sand that forms Yamal.
Additionally some observers say that Novatek could buy from Gazprom four fields close to Yamal LNG. If that went ahead, Novatek CEO Leonid Mikhelson said, the Yamal and Gydan peninsulas will produce over 75mn mt/yr – comparable to the present LNG production in Qatar. Furthermore, Novatek may become a foreign LNG investor and invest in regasification facilities in China.
Moscow throws weight behind LNG
Yamal LNG proves that the Russian government is starting to think about LNG as a strategic market for its energy security, hence Moscow’s financial support for it. The project is exempt from the LNG export tax; it will not to have to pay the mineral extraction tax for 12 years; the government funded the Sabetta port and other construction projects and it received financial support from the Russian national wealth fund. These bonuses make Yamal LNG one of the most competitive LNG project in the world.
Novatek is also the only potential buyer of licence to develop the Gydansky gas field which will form part of the resource base of the second Novatek project Arctic LNG 2. In April the government announced an auction for the development of the field, in the Yamalo-Nenets autonomous region. The site area is 3,700 km² with gas reserves estimated at 58.4bn m³ of C1 category, 57.7bn m³ of category C2, 361.14bn m³ of C3. Additionally there is condensate, which can transform the economics of an LNG project. The auction is planned to take place June 9 with the reserve price of roubles 2bn ($35.35mn). No one apart from Novatek has satisfied the condition that the winner must liquefy the gas for marketing purposes.
Rosneft, the also-ran
Rosneft has two LNG projects: Pechora LNG and Far East LNG. Pechora LNG is operated in cooperation with the little-known Alltech Group and has a capacity of 4-8mn mt/yr. The Far East LNG project is for 5mn mt/yr, headed by US major ExxonMobil. In distinction to Novatek, Rosneft sees LNG as only a part of its general development strategy rather than a priority.
The Russian government supports LNG projects but only Novatek benefits fully from it, perhaps owing to the relationship between the main Novatek shareholders Gennady Timchenko and Leonid Mikhelson and Russia’s president, Vladimir Putin. The other possible variant is that Gazprom was preoccupied with other projects. These two companies will probably compete with each other and there could be a possible confrontation in Europe, where Gazprom remains the monopoly exporter of pipeline gas but where Novatek also trades gas and power. Among Yamal LNG’s customers are Shell and Engie, both long-term customers of Gazprom.
Low-tonnage LNG production is the next market niche which has good growth prospects in Russia. Russia has seven facilities, producing in total 100,000 mt/year of LNG.
There are many obstacles blocking this segment of the LNG market, such as the lack of infrastructure enabling the supply of LNG as motor fuel, the necessary legal and regulatory frameworks, the high cost of foreign technology and a network of service centres for the maintenance of vehicles using LNG.
But while these limitations slow down the development of this segment, nevertheless it has good prospects because it creates a new source of gas demand. LNG as a motor fuel can be used in trucks, buses, trains, tractors and so on. Demand for LNG as a motor fuel will reach 1.156 mt/yr in 2020 and 5.208 mt/yr in 2040, according to some forecasts – in other words a 350% rise in demand if the forecast proves accurate.
Today it looks like Russian activity in LNG sector will keep a medium rate of development (except Novatek) and according to many experts, LNG for Russia will play only a supplementary function. It would change if LNG became a bigger part of the Russian energy security strategy, which would mean government support for projects to pick up speed. There are already some promising signs: for example the deputy energy minister Kiryl Molodtsov said in May 2017 that by 2020-2022 Russia would create its own technology for LNG production. He said it was a strategic initiative in response to EU and US sanctions, although Novatek has used US Air Liquide technology.
The next step is to fully liberalize the LNG export and this is well understood in Russia. Its “General scheme of development of the gas sector to 2030” published by the energy ministry gives prominence to the liberalisation of LNG exports, which means that it is possible to introduce successive elements liberalizing the LNG market in Russia.
The big risk for Russian LNG is that today’s gas market is a buyer’s market. Russian LNG will have to compete with US LNG, more experienced LNG sellers like Qatar and Australia, plus probably within a decade, Iran which plans to become the next big LNG player with its LNG export capacity of 40mn mt/yr.
There are also low average spot prices, and for example, in Northern Asia from 2015 to 2016 the price fell by $2.32/mn Btu to $5.52/mn Btu. The future of Russian LNG depends to a very large extent on government support – tax exemptions and state involvement – and on exporters’ sales capabilities. Nevertheless, Russian LNG projects have their future; and Novatek – a potential leader of LNG in Russia, with ambition to become a big player globally – could transform Russia’s so-far monolithic gas export structure.