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Difficulties Down Under

LNG Industry,

The LNG industry has burgeoned over the past decade, becoming increasingly integrated into the global gas market, yet the LNG market is set to tighten over the next few years as demand closes in on supply. With a raft of projects already under construction and a steady stream of developments at the planning stages, Australia is set to challenge Qatar’s future position as the world’s largest producer of LNG. But with spiralling cost issues and project delays, what is the outlook for the Australian LNG sector and where does it fit in when it comes to plugging the supply gap?

At the beginning of 2013, LNG accounted for around 13% of the global gas market and by 2030 it is forecast to meet over 35% of delivered gas supplies. Yet, in the near term, demand for LNG is expected to outpace supply, increasing by a factor of 4.3 and 8.9 in 2013 and 2014 respectively, an average rise of 37 million tpy each year. At the start of 2013, global LNG capacity stood at 269 million tpy, only 4.8 million tpy higher than at the same point 12 months earlier following the commissioning of just one liquefaction plant, the Pluto facility in Australia. A similar outlook awaits this year, with minimal capacity set to come online, exacerbated by the delay of Angola LNG’s Soyo 5.2 million tpy liquefaction facility during 2012, which has now been pushed back until the first half of 2013 due to commissioning issues. Supply contributions from new projects are also unlikely to meet rises in demand, with only two facilities set to come online in the next year.

Global LNG supply

In total, global LNG capacity is expected to grow by 8.4 million tpy to 277 million tpy in 2013, with even lower growth of 4.4 million tpy forecast for 2014. The supply demand imbalance is forecast to worsen further as several LNG regasification facilities are set to come online during 2013 and 2014; according to the EIC’s in house energy projects database, EICDataStream, a total of 34 LNG regasification terminals are due to come online over this period globally. During January 2013, India’s long-awaited Dabhol terminal and Israel’s Hadera floating, regasification and storage unit (FSRU) were commissioned, bringing a combined 7.9 million tpy of regasification capacity online. China’s Zhuhai and Tangshan facilities along with Singapore’s first regasification plant are all also due online during 2013, totalling 13 million tpy of regasification capacity.

LNG projects coming online are expected to provide sufficient supply to meet demand up until 2017, but by 2020 demand will exceed supply unless planned projects (yet to be sanctioned) are given the go ahead. This supply deficit will impact on prices which, after hitting a 17 month low during the post-summer lull in 2012, have rebounded with spot deals already closing in on US$ 19/million Btu during the winter of 2013. With lucrative Asian buyers led by China and India, it is expected that prices in this region will prevail until at least the end of 2014.

Australian LNG projects

It is against this backdrop that the markets have turned to Australia to provide supply growth over the next five years. Already the fourth largest LNG producer, Australia is undergoing rapid infrastructure investment and currently has seven LNG projects under construction. The first of the new capacity is set to reach customers in early 2015, when a 25.5 million tpy rise in global LNG liquefaction capacity is expected. A further 24 million tpy is expected in 2016, lifting global capacity up to 331.2 million tpy. Much of this initial growth will be driven by the ramp-up of four major projects: Queensland Curtis (QCLNG), Gorgon, Australia Pacific LNG and Gladstone LNG (GLNG).

However, this rapid expansion has come at a price, with many of Australia’s already expensive LNG liquefaction projects now facing serious cost escalations associated with a barrage of domestic factors. Australia is now widely regarded as the most expensive place in the world to build LNG projects, with facilities estimated to be up to 80% more capital intensive than any already in operation. The seven projects currently under construction amount to a total investment of over US$ 150 billion, with the most expensive of these being the US$ 34 billion Ichthys LNG project operated by Inpex. With a cost of US$ 4 billion per million t of annual capacity, the project is still regarded as the most capital intensive LNG project ever to be sanctioned, largely due to its isolated location and the 885 km subsea pipeline required to transport gas to Darwin. By comparison, the Angola LNG project in southern Africa has a capital cost of below US$ 1.7 billion per million t of annual capacity.

These inflated prices are a direct result of Australia’s high cost environment. Remote project locations often require substantial infrastructure development to support their large workforces, and projects are also faced with importing many of the construction materials due to a dearth of specialist local suppliers. Projects must also meet the costs associated with major social investment programmes and community partnerships, in addition to complying with rigorous environmental and safety requirements.

On top of this, at least four projects have experienced escalating costs during their construction phases. The Pluto (train 1), Gorgon, QCLNG and GLNG projects have all reported cost increases since making final investment decisions totalling US$ 36 billion. These projects have suffered from a variety of budgeting issues, but Santos, BG, ConocoPhillips, Origin and Chevron have all mentioned three similar reasons behind these cost increases: labour shortages, a strengthening Australian dollar and a complicated regulatory environment.

Currency fluctuations

Since the start of 2009 the Australian dollar has appreciated against most major currencies, in particular the US dollar, pound sterling, Euro and the Japanese yen. As a result, the cost of constructing large LNG liquefaction facilities has increased in real terms. However, since mid-2011 the currency has undergone a sustained period of relative stability in comparison to the rises observed during the previous 12 months, increasing by around 3%. As a result, the remaining four projects that were sanctioned during this period are somewhat protected from the cost blowouts associated with currency appreciation.

Labour costs

With seven LNG facilities almost simultaneously under construction, energy contractors are facing difficulties hiring skilled manpower from within Australia’s overstretched labour pool. Part of the problem is Australia’s small population base, as well as the fact that many skilled workers are unwilling to uproot and move to the states with the most demand. Another problem lies with the strict requirements for issuing Enterprise Migration Agreements (EMAs), which are only issued for companies with a minimum capital expenditure of AU$ 2 billion and a peak workforce over 1500.

Leading LNG engineering contractors have pursued various methods to boost Australian LNG skills, offering some of the highest oil and gas salaries in the world. Employees in Australia’s oil and gas sector earn 25% more than workers with the same job in the US, averaging US$ 163 000/year based on natural gas projects. In addition to offering huge remuneration packages for engineers, contractors have also embarked on fast-track apprenticeships for older workers, scholarships in new energy engineering schools and have even brought in skills with the acquisition of smaller companies.

Local regulations

Besides escalating labour costs and a strengthening Australian dollar, tighter local regulations have also contributed to Australia’s LNG project budget blowouts. The country’s regulatory process is often praised for its rigour compared to international standards but it is important to recognise that environmental regulations remain complicated with layers of assessment, approval and duplication, which can result in confusion and costly delays. The nation’s federal governance structure is complex, which sometimes results in contradictory policies between regions, a situation that is not forecast to improve in the short-term.

Following a record number of final investment decisions over the past two years, Australia is set to have ten liquefaction plants capable of producing 85.5 million tpy by 2018, but there are signs that the pace is slowing following the cost blowouts. Nevertheless, the host of LNG projects now waiting to receive the go-ahead could further cement Australia’s dominance of the LNG market. Three projects are expected to have a final investment decision before mid-2014: Browse, Arrow and Fisherman’s Landing, which combined could increase capacity by a further 23 million tpy, potentially raising Australian capacity to 108.5 million tpy.

FLNG technology

A raft of further developments, mainly floating or expansion projects, are undergoing either FEED or pre-FEED. These types of projects are now favoured by many operators due to the lower CAPEX associated with their development. FLNG vessels can be constructed at a lower cost in Asian yards, while expansion projects are significantly cheaper than building a new greenfield plant, since many of the facility components are already in place.FLNG technology is ideally suited to the development of gas reserves in Australia due to its abundance of scattered offshore gas fields. Indeed, Shell is widely considered the frontrunner with its Prelude facility, the first and certainly the largest FLNG facility in the world, which will be deployed 200 km off the north-west coast. The project is expected to come online in 2017.

Although the technology remains untested, several operators are now looking to use FLNG to bring their projects online. PTT Exploration and Production Public Company Ltd (PTTEP) is developing an FLNG project, North West Shelf FLNG, designed to liquefy 2 million tpy using the Cash-Maple gas field as feedstock, while GDF SUEZ and Santos are also looking to implement FLNG technology to develop the Petrel, Tern and Frigate offshore gas fields in the Bonaparte basin.

Woodside and its partners have also gone back to the drawing board with the Browse development, after deciding not to proceed with the original plan for a 12 million tpy LNG plant at James Price Point due to prohibitive costs. At the end of April, operator Woodside announced that it had entered into an agreement with Shell setting out the principles for potentially developing the Torosa, Brecknock and Calliance fields in the Browse basin using FLNG. A floating option is believed to have long been favoured by Shell, a partner in the project.

Given the huge cost increases associated with onshore LNG developments in Australia, it now seems likely that FLNG technology will become increasingly important to sustain capacity expansions at a lower cost. Investment in FLNG is set to increase substantially once the first project comes online and the economic viability of the concept has been proven on a stand-alone basis. While FLNG development is forecast to expand substantially, it will not be at the complete expense of onshore based facilities, instead it will expand LNG production into areas where it had not previously been viable.

The appetite for the higher priced commodity generated by Australia has yet to be fully tested but, in spite of new competition emerging from North America and elsewhere, the fact remains that Australia is attracting a record amount of global project finance. The country secured 22% of all project finance globally in 2012, followed by the US with less than half of this amount, and this current investment trend is a strong indicator that Australia is set to play a leading role in the future global LNG sector.

NoteData for this article is extracted from EICDataStream, the EIC’s global project database, which tracks over 10 000 of the most significant projects across the oil and gas, power and renewable sectors. It should be noted that there will always be a proportion of proposed projects that do not gain planning approval and the requisite finance.

Written by Alex Field, Energy Industries Council (EIC), UK. This is a shortened version of an article that features in the July/August issue of LNG Industry. To read the full article, subscribe here.

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