Gas' oil price hangover

The design for Chevron's Wheatstone LNG project.

The design for Chevron's Wheatstone LNG project.

The International Energy Agency (IEA) has painted an uncertain picture for gas-producing economies, with the oil price slump expected to claim a few casualties and some Asian importers poised to reduce demand.

The Agency’s Medium Term Outlook 2015’ warned of a looming industry-wide consolidation with pressure mounting on gas producers to rein in CAPEX levels as the low oil price, which has halved in a year, continues to inflate operating costs.

“Due to its capital-intensive nature, the liquefied natural gas (LNG) industry faces an uphill battle,” the IEA cautioned. “Budgets for 2015 have already shrunk, but in the absence of a meaningful price recovery, deeper cuts will follow.

“Those projects currently under construction today are set to come on stream broadly as planned, as large upfront capital costs have already been incurred. However, beyond that new LNG plants will struggle to get off the ground. Today’s LNG prices simply do not cover the capital costs of new plants.”

Global credit ratings agency Standard & Poor’s, released its annual survey on capital expenditure in July 2015. The survey found that 2000 of the world’s biggest firms are set to cut back on investments by one per cent in 2015 and as much as four per cent in 2016 as commodities markets weaken.

The ratings agency highlighted a 14 per cent fall in CAPEX for the energy and materials industries alone as the oil price glut continues to strain companies’ margins and confidence in demand from China wanes.

Closer to home, evidence of Australian producers’ CAPEX tightening continued to surface with the latest round of quarterly statements revealing a significant reduction in expenditure among some of the bigger players, compared to this time last year when the oil price began its rapid fall. Chevron, Origin Energy, Senex Energy, Beach Energy, Santos and ExxonMobil all revealed CAPEX reductions in Q2 2015, compared with the same period last year, with many also confirming the revised levels will continue into FY16.

The tightening comes as a number of LNG development projects move closer to coming on stream. Australia currently has $180 billionworth of new LNG projects currently underconstruction including Shell’s estimated $12 billion Prelude floating LNG project and Chevron’s two major Western Australian operations, Wheatstone and Gorgon.

In total,six LNG projects currently under construction are aiming for completion over the next two years and by 2020 ten facilities combined are expected to produce more than 85 MMt/a. Also in development is Woodside’s $40 billion Browse FLNG facility, which received the go-ahead in 2014, and in July this year confirmed it is entering the initial design phase for its facility.

No greenfield LNG projects have yet been announced in Australia since Shell deserted its Arrow LNG project in the Bowen and Surat Basins in January in the wake of the collapse in oil prices. Chris Graham, research director in Wood Mackenzie’s Asia Pacific primary fuel fundamentals team, says there is currently limited space and funds to enter Australia and Asia’s LNG market.

“The LNG market is entering into a period of considerable oversupply, which could keep prices and demand for new projects weak well into the next decade,” he said. “The opportunity for new Australian projects is even more limited as these are typically higher cost and don’t offer buyers the same level of flexibility that say a North American LNG project does.”

IS ASIA REALLY THE ENGINE FOR GROWTH?
The IEA expects global gas demand to reach an average growth rate of 2 per cent over the next five years, below the previous ten-year average of 2.3 per cent. While the lower oil price and the better affordability of gas imports is expected to provide some tailwinds for gas exporting nations in the short term, expanding further in the Asian region could become more difficult in the medium term.

“Although Asia has been regarded as an engine of future gas demand growth, the fuel has struggled to expand its share of the market in many parts of the region. This has raised questions over the viability of gas as an attractive strategic option across Asia,” the IEA report says. “In Japan, gas demand is set to fall. The only uncertainty is how fast, due to the fact that the scale and timing of the nuclear power comeback remain unknown.”

The international agency noted that a number of Asian nations are deliberately limiting gas usage in their power mix and have prioritised coal capacity expansions over those of gas. “Other countries have run their regasification infrastructure and gas-fired power plants well below their full potential despite facing substantial power shortages in some cases,” the report said.

“Trust in gas as an attractive strategic option must increase for the fuel to make sustained inroads in the energy mix of much of developing Asia. While environmental policies can play an important role in this regard, they will not do the job by themselves; thus the gas industry must prove it can deliver gas supplies at price levels substantially below those that have prevailed in the recent past.”

CLIMATE POLICY TO DRIVE GAS
Despite flagging China’s recent economic slowdown from 14 per cent growth to single digits, and overall decline in primary energy consumption as areas to watch for the gas iindustry, the IEA was generally optimistic
about the country’s future demand.

Indeed, China’s ongoing intensification of its environmental policy could be beneficial for gas.

“In this respect, lower import prices have the potential to turn gas into an increasingly attractive option from an environment viewpoint,” the agency said. “Overall, this outlook forecasts a moderate re-acceleration of gas consumption growth from the lows of 2014,and an average annual increase of 10 per cent throughout the rest of the decade is projected.”

China and Japan together account for more than 95 per cent of Australia’s LNG exports.

Mr Graham remained optimistic about Asia’s long-term appetite for gas and even said new countries in the region had the ability to sustain demand for the commodity.

“The longer-term appetite for gas remains strong – Asia is still the key region for LNG demand growth globally although the focus is shifting from the traditional markets of Japan and Korea to China, India and the SE Asian economies,” he says.

“That said, Japan will remain the world’s single largest LNG importer over at least the next couple of decades, and a key partner for Australian LNG, although its future growth will be more modest.”

Citing market fluctuations in February when spot market prices for gas in Japan were lower than those at the National Balancing Point in the UK, IEA executive director, Maria van der Hoeven in a speech made in Rotterdam on 25 June expressed confidence in the commodity.

She said expected LNG prices to remain low worldwide due to the large volumes set to come online in Australia. “Between now and 2020, 164 billion cubic meters of additional volume will reach the market even as demand in Asia is flattening. It is therefore expected that the supply of LNG to Europe will pick up again. That’s good news for the Gate terminal.”

Ms van der Hoeven was optimistic the global gas industry would adapt to changing market dynamics and the onset of renewables given its ability to improve energy security and potential as a transition fuel.

“But ultimately, the availability ofsufficient and relatively inexpensive gas will be the only way to allow gas a substantial share in the energy mix. The industry must now prove that it can continue to deliver gas at prices that are significantly lower than the relatively high prices of recent years.”

“Ultimately, the availability of sufficient and relatively inexpensive gas will be the only way to allow gas a substantial share in the energy mix.”- IEA Executive Director, Maria Van Der Hoeven

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