It is with great sadness that we witness the tremendous economic devastation to our societies from the ongoing global COVID-19 lockdown. The LNG industry has not been spared. Although natural gas demand has been less impacted than other commodities such as crude oil, this pandemic comes at a time when the LNG market was already oversupplied. This reduction in demand has created increased uncertainty for both active market participants and investors alike destroying their short term profits and returns. However, we strongly believe that natural gas will continue to play an important role as the world seeks to rebuild its economies in the aftermath of the virus and continues to target cleaner energy sources.
On the supply side, global liquefaction capacity reached 430 mtpa at the end of 2019 with 42.5 mtpa added during the year, according to IGU. On top of this more than 70 mtpa has taken FID or is under construction (including projects in the USA, Mozambique and Russia). This new capacity is expected to come on stream over the next few years. A further several hundred mtpa is currently in a pre-FID stage, mainly in the USA, Canada, Qatar and Russia. We would expect that these project FIDs will be postponed, until the market outlook is less oversupplied and as companies look to manage cash flow and reduce capital expenditures. However, this suggests abundant supplies of competitively priced natural gas will stimulate transition in the power sector complementing nuclear and renewables and accelerate use of LNG / CNG for transportation on land and sea.
As of end 2019, 37 countries had terminal capacity to receive and regasify LNG. At present global regasification capacity stands north of 820 mtpa with a further 120 mtpa of new capacity under construction. Despite the high capital and operational costs to develop and maintain this regasification capacity, in the period between 2000 and 2019 average utilisation rates for these terminals have only been in a range of 30 to 45%. Typically consumers have borne these costs in countries that have sought diversification and security of supply. It is important to keep in mind that the majority of the traditional LNG import markets have been large developed economies with deep natural gas markets; enabling the consumers to pay for the safety (or luxury) of having excess regasification capacity. This is much less the case when looking at new and potential LNG demand around the developing world in general and, even more important, when considering a poorer world resulting from the lockdown. China and Taiwan have shown that import terminals can operate close to or above 100% utilisation, resulting in lower unit import costs, demonstrating the benefit of sizing the regasification capacity to closely match local demand.
One short-term impact of COVID-19 lockdowns is global LNG demand in 2020 is projected to fall significantly below 2019 levels. In addition to lower global economic activity, demand is forecast to fall further in Europe as result of high storage inventories, and the marginal cost of US LNG cargoes into Europe being sub economic. This will lead to many more US export cargoes to be cancelled. Before the pandemic the sentiment among analysts and participants was for the market to be in surplus for several years, relying on Europe acting as a clearing house to prevent cargo cancellations. With such low European gas prices, the belief is that this LNG surplus could continue even longer.
The impact on LNG prices has been dramatic, with a convergence at historical low levels of all major natural gas / LNG price indices globally. It is possible that global LNG prices could remain low for the foreseeable future.
Given the continued increase in LNG supply, low pricing, weak demand in key markets and limited available natural gas and LNG storage capacity, new demand has to be created for the industry to improve conditions. In addition to the potential for coal to natural gas switching in the developed world, especially in China, a crucial strategy going forward will be to build new LNG consumption and import capacity in emerging and frontier markets. Emerging markets are at present under- electrified, with pent up demand for power. Using floating regasification and power production, new electricity supply can be built, installed and operational within 6 to 18 months. However, critical factors when considering new and frontier markets are capital discipline, their credit worthiness and the consumers’ ability to pay. The traditional approach of allowing for significant overcapacity does not work and the result has been that these markets have been extremely slow to develop or have not developed at all. Although quicker and cheaper compared to land-based capacity, conventional FSRU’s are designed for relatively large LNG throughput in the range of 3 to 6 mtpa and more suited for opportunities where there is an existing and deep natural gas market. A medium scale Dreifa floating regasification unit (FRU) (0.5 to 1 mtpa) in combination with a fully amortised low-cost steam LNG Carrier used as a floating storage unit (FSU), can result in huge savings in terminal cost compared to a conventional FSRU, combined with an even greater reduction in balance sheet exposure. These reductions in exposure are an important indicator of the level of financial backing required by the project sponsors and hence their ability to take a project FID. These emerging markets have few other options to add generating capacity other than distillate or fuel oil units, which are proving increasingly difficult to finance. Modest quantities of natural gas can be delivered to these markets at costs less than oil equivalent while resulting in a delivered LNG price higher than the marginal cost of US sourced cargoes and likely better than full cycle US project cost.
We continue to progress a number of LNG import and LNG-to-power project opportunities around the world, but until the turmoil is behind us it is challenging to assign a meaningful probability of success. As mentioned at the beginning of this comment, we strongly believe that clean and affordable LNG will have a bright long term future and are determined to be part of the efforts to enable this, once the world returns to the new normal.
Please let us know if you would like to discuss or if there is anything we can assist you with now or in the future.
Best regards, The Dreifa Team