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Freeport LNG Contracts First Train, Talking with Shell

August 6, 2012
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Freeport LNG Expansion LP has struck 20-year liquefaction tolling agreements with Osaka Gas Co. Ltd. and Chubu Electric Power Co. Inc. covering 100% of the liquefaction capacity of the first train of Freeport LNG's propose liquefaction and liquefied natural gas (LNG) loading facility near Freeport, TX.

The initial three-train facility will be capable of liquefying 13.2 million tons per annum (mtpa) of natural gas. Freeport LNG said it expects that all three trains will be fully subscribed by the end of 2012. The Japanese utilities have acquired rights to the 4.4 mtpa production capacity of the first train at Freeport over an initial 20-year term. Osaka Gas owns a 10% limited partner interest in the liquefaction project.

"As two of the largest natural gas and electric utility service providers in Japan, having liquefaction tolling agreements with Osaka Gas and Chubu Electric provides the strong end-user credit support necessary to fully finance the initial train of the liquefaction project," said Freeport LNG CEO Michael Smith.

Smith told NGI his company is now in exclusive talks with a unit of Royal Dutch Shell for all the capacity of trains two and three. "We are in the process of going from a heads of agreement to binding agreements before year-end...Assuming we finalize the deal with Shell, we will be fully sold out for three trains," he said.

Smith called Chubu and Osaka the "two best end-user customers in Japan, and you put Shell in the mix and we would have by far the best mix of customers of any U.S. proposed export facility in the country."

Commencement of construction is subject to regulatory approvals and final investment decision by Freeport LNG. Key regulatory approvals include Federal Energy Regulatory Commission authorization to commence construction and Department of Energy (DOE) approval to export LNG to countries with which the United States has not entered into free trade agreements (FTA).

"It is critical we get non-free trade [authorization]," Smith said. "If we didn't, we could start our marketing all over again to the few free trade countries that are out there, but not for these transactions. Japan's not a free trade country."

He added that he's "extremely confident" the authorization from DOE will come through. Freeport and other applicants have been awaiting the completion of a DOE-hired consultant's macroeconomic study of the impact of LNG exports.

"I think that the study is coming out imminently from everything that I've heard from Washington," Smith said. "It's not just my sources and our lobbyists, it's other companies...that are hearing the same thing. There will be a comment period after the study is done, and if you add the time period for the comment period -- which is a 45-day comment period, followed by a 30-day rebuttal period -- you're getting darn close to the [presidential] election if they released it today. That would be mid-October. I would think that we're not going to get orders [on export applications] until probably right about or after the election."

Last April DOE approved the first application for LNG exports to countries that are not parties to an FTA with the United States (see NGI, April 23). DOE has since put the non-FTA permitting process on hold while it assesses the impact of LNG exports on domestic gas markets. In June an Obama administration official hinted that more permits would be issued (see NGI, June 25).

Overall, Smith said he thinks that four or five Lower 48 liquefaction/export terminals will get non-FTA approvals from DOE and three to five will get built. He said he doesn't know if DOE will "pick winners and losers" by selecting the first projects in the application queue for approval. (Cheniere Energy was the first with its Sabine Pass project, the only one to have non-FTA authorization. Freeport is the second in the queue.) DOE also could approve numerous or all applicants and place limitations on project sizes, Smith said.

"Even if they approve 10 of them, are there enough buyers out there for all 10? I don't think so. Then you have to ask yourself, is there enough capital. Look at how much trouble Cheniere has had closing the financing for two trains. We're all going to the same market, the project finance market. How much risk exposure are they going to want to one investment thesis. These things are incredibly expensive...There's a market out there for four our five of them. I don't think there's a market out there for 10 of them, either in capital or in customers."

The LNG demand outlook in Japan is unclear as well, Smith said. The country has 54 nuclear reactors, 52 of which are shut down following the disaster at the Fukushima plant. Smith said it could be determined in August how many are restarted. It could be all of them, which would represent about 25% of the country's power generating capacity. A number representing about 15% of the capacity could be restarted, or none of them, Smith said.

"If they go no-nuclear, they just need an unconscionable amount of LNG and other alternative supplies," he said. "If they open up all of them again, they're just going to need probably what they thought they were going to need before Fukushima, which was they were increasing by a few percent per year. They were the No. 1 [LNG] buyers in the world before Fukushima; they were doing 70 million tons a year. Now they're up to, I think 85 [million tons]. I think it's unlikely that they're going to open up all of the nuclear reactors. Some of them are very old and some of them are right by the sea coast, and those are the ones that will have a very difficult time getting recommissioned."

The Freeport project would be a benefit to oil- and liquids-focused producers in the Eagle Ford Shale, Smith said, as it would create a demand source for dry associated gas that is currently being flared.

It is anticipated that, upon final investment decision, the first three trains will be constructed as the initial phase of the liquefaction project. The liquefaction facilities would be integrated into the existing regasification facilities and operated as an integrated plant.

Freeport LNG expects to receive all regulatory approvals by mid-2013 and to begin construction in the third quarter of 2013. The first train is expected to be working 48 months from start of construction, with each subsequent train in operation six to nine months after the previous one enters service. The company has contracted with Chicago Bridge & Iron and Zachry Construction to engineer, design and build the project. Macquarie Capital is serving as financial adviser.

Freeport LNG Expansion is owned by Freeport LNG Development LP, which owns and operates the existing LNG regasification terminal near Freeport. The terminal started commercial operation in June 2008. Freeport LNG Development has four limited partners: Freeport LNG Investments LLLP, an entity owned by Michael S. Smith; ZHA FLNG Purchaser LLC, a subsidiary of Zachry American Infrastructure LLC; Texas LNG Holdings LLC, a subsidiary of The Dow Chemical Co.; and Turbo LNG LLC, a subsidiary of Osaka Gas Co.

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