Rushing to the Right LNG Deal May 26, 2014
There is a lingering notion that Canada is missing a window of opportunity to capture LNG exports. It’s not true. Especially, if you look out the window and see the energy future that’s shaping up over the next 10 years.
For sure the window is open now, but it’s not constrained to a fixed crack, like those found in hotel rooms. Far from being a narrow opportunity, the natural gas market window is being cranked open around the world. A staggering amount of the cleaner burning fuel will be demanded over the next 10 years – likely more than suppliers can offer at low prices. To put things in perspective, consider last week’s much vaunted China-Russia gas deal. By 2025, China alone will need the equivalent of 16 of those deals to satiate its energy appetite.
From a high altitude perspective, the world today is consuming roughly 320 Bcf/d of natural gas. Annual growth of the primary fuel is running at about 2.2%, or just over 7 Bcf/d – nearly two times the size of the “landmark” deal each year . In China, the consumption of natural gas is running at more than 14 Bcf/d. Several agencies and consultancies have go-forward projections, but most are underestimating what the world’s biggest consumer of energy will need a decade out. We think it will be at least 60 Bcf/d, as illustrated in our feature chart this week.
Total energy consumption growth in China should ease over time, because of increasing efficiency gains and a moderating economic growth rate. Both of these dynamics are hallmarks of a post-emergent society. Underneath the top line in our chart, China’s energy mix diversifies to include more nuclear power, renewables and natural gas. This early fanning out pattern is also consistent with the evolution of energy in mid-stage emerging economies. Estimates for China’s natural gas fraction by 2025 are open to interpretation, but 15% of the total mix is a reasonable target, and is consistent with western countries that went through their diversification phase in the 1970s. But that 15% share, or 60 Bcf/d, is deceivingly huge in a country with 1.3 billion people! In fact, for China, the go-forward fractions of renewables, nukes and cleaner-burning natural gas are all probably too conservative. The necessity for this fire breathing economic Dragon to get off its growing coal diet will intensify exponentially as the populace copes with the bad breath of its rising emissions. That’s why gas demand in China is growing at 10-15% per year.
But here is the kicker for China and other energy-hungry Asian economies: Over the next decade the incremental cost of diversifying primary sources of energy is not likely to be as economic as the $9.91/Mcf Russian deal. The marginal cost of coal substitution will get progressively more expensive on increasing volume demanded by emerging economies seeking a greater fraction of cleaner energy supply.
If three Canadian LNG projects get built over the next 10 years, Canada’s contribution to the world’s gas supply might be 4.0 Bcf/d, the equivalent of a party balloon inside the Goodyear blimp. The issue for Canada is not worrying about the availability of market share, but about ensuring the capture of maximum value amidst the impatient competitive noise.
Certainly there is merit to being early to the Asian gas market, as the Russians have demonstrated. And there will likely be more early birds announcing Asian gas deals before the first Canadian LNG project announces its Final Investment Decision (FID). Such deals will worry competition-phobic Canadian observers and pundits. However, the most important thing when entering a high growth energy market is not being early. Of greatest value is offering a timely product that is reliable, politically stable, of consistently high quality, produced at a lower cost than others, and that is contracted at the highest price.
The rush is to get the right deal done, not the first deal.