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E&Ps Likely to Lead Next Wave of LNG Development, Says Goldman

Natural gas producers with strong balance sheets likely will drive the next wave of investment in liquefaction terminals and export projects, according to Goldman Sachs & Co. LLC.

The review of the global gas markets, led by Goldman analyst Christian Lelong, focuses on the likely role of exploration and production (E&P) companies in financing new liquefied natural gas (LNG) capacity. Many consumers may lack the risk appetite for long-term fuel supply agreements, but producers may be better placed to mitigate the risks, the Goldman team argued.

“Moreover, natural gas has the more attractive long-term demand outlook of all fossil fuels, and producers are likely to respond by allocating it some of their growth capital,” Lelong said. “In our view, a greater willingness to take on price risk should reduce the historical dependency on long-term contracts and leave producers firmly in the driving seat.”

Whereas a consumer could be exposed to one sector, such as power generation in one region, with limited visibility on long-term demand, E&Ps are exposed to all end-use sectors and regions, the Goldman team noted.

E&Ps benefit from the “diversification of risk to the extent that a negative demand shock in one market, whether from a change in regulation or in the business cycle, can be offset by a positive shock in another sector/region,” Lelong said. Larger E&Ps also tend to have stronger balance sheets than their consumers.

A sample that included four of the largest companies in each sector indicated that the average market capitalization of an E&P “is an order of magnitude larger than that of a utility.”

A minority offtake from a new LNG train would be a bigger commitment for a major utility than a full train is for a major E&P, analysts said. Based on Goldman forecasts, “we believe the differentiation in financial firepower is likely to continue in the foreseeable future.”

In addition, gas has a more attractive long-term demand outlook for all fossil fuels, with demand increasing by around 1.7% a year to 2035, about four times faster than oil.

“We believe producers are likely to respond by allocating a greater share of their growth

capital to gas production, including LNG,” said the Goldman team.

In fact, supermajors that include Royal Dutch Shell plc and BP plc are increasingly focused on building their natural gas portfolios through LNG projects.

Super independent Anadarko Petroleum Corp., which is advancing contracting for a proposed Mozambique LNG export project, is seeking up to $15 billion in financial assistance, according to Reuters. Sources said Societe Generale, Anadarko’s financial adviser for the estimated $20 billion project, already has interest for a combined $12 billion in cover and direct lending from export credit agencies.

The option value of a new LNG train “is highest when the project is part of an asset portfolio,” according to Goldman analysts. “Regional price spreads are significantly higher in LNG relative to other commodities but, in the case of a consumer, the incentive to optimize LNG revenue may clash at times with the need to cover its own physical short. Producers and traders do not

have that constraint, and are therefore free to maximize revenue and/or minimize transportation costs.”

The latest wave of global LNG projects should be online by the summer of 2020. Projects sanctioned later this year, which may include the Shell-led LNG Canada project in British Columbia, could be completed after a hiatus in new liquefaction capacity of two to three years.

“On that basis,” said the Goldman analysts, “we expect large E&Ps to drive the next wave of investment in the months ahead; independent developers dependent on external sources of financing, and therefore on long-term sales agreements, may find it difficult to respond.”

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