US hopes for robust second wave of LNG supply could dim: Freeport LNG's Smith

Houston — The substantially lower fees that developers of new US LNG export projects are being asked to accept for their supplies compared with what was agreed to for existing facilities will make it very difficult for most of them to build, Freeport LNG CEO Michael Smith said Wednesday.

Smith knows the dilemma well. A preliminary agreement signed in 2018 by Japan's Sumitomo for the purchase of 2.2 million mt/year of LNG from a proposed fourth train at his Texas facility expired without being finalized, he said in an interview with S&P Global Platts.

While Freeport LNG is hopeful it will be able to ink sufficient deals with other buyers with whom it is currently talking, the challenges it faces reflect a "completely changed" market, Smith said. Record low prices and weaker than expected demand in Asia, oversupply concerns and the recent coronavirus outbreak have created a perfect storm of headwinds for producers looking to add terminals or new trains.

"I don't think there's going to be a lot," Smith said of additional sanctioned US capacity. "The margins for everyone have come down."

If he's right, that would be a blow for US growth prospects beyond the six major terminals that are in operation and the two that are under construction. More than a dozen developers that are actively pursuing new trains or terminals that are to be part of the so-called second wave of US LNG supply have yet to announce positive final investment decisions.

"We don't have anything signed up. Until we do have something signed, no one is going to hear from us," Smith said about Train 4. "We believe once we have the requisite capacity sold to reach our financing hurdles, we can close a transaction within a six-week time period, eight on the outside."

Smith declined to specify what range of prices Freeport LNG is discussing with prospective buyers, though he said it was "in the ballpark" of deals announced by other developers over the last two years, with the exception of Venture Global LNG, which is said to have accepted less than $2/MMBtu for some of its supplies from Calcasieu Pass. The Louisiana facility is currently under construction. Offtake deals signed for the first wave of US supply ranged from $2.25 to $3.50/MMBtu, according to Platts Analytics.

"We don't believe we are wasting our time," Smith said. But, he added, "it won't be like it was with the first wave."

Freeport LNG's current target, which it describes as soft, is for a final investment decision on Train 4 by mid-year. Project startup could push into 2024.

One advantage for Freeport LNG: the facility south of Houston is currently seeing robust utilization of its first two trains. It is finishing up the last bits of insulation for its third train, which is expected to be complete by the end of February, Smith said. Feedgas is expected to be flowing to the third train in March, and first LNG production from the train could occur later in the month, he said.

PAVILION CANCELLATION

In a potential worrisome sign for the market, one of Cameron LNG's offtakers, Singapore's Pavilion Energy, canceled its spot vessel requirement for a mid-November 2019 loading, with poor economics said to be at play. France's Total, one of the joint venture partners at the Louisiana facility, has described what happened as a one-off issue that doesn't reflect on the overall operations of the terminal.

For Freeport LNG, weak market fundamentals are not expected to lead to shut-ins of supply in the near-term, Smith said. None of its offtakers is pressing to renegotiate existing contracts, he said.

"We are running full out on our first two trains," Smith said. "Everyone is exporting everything that they are contractually obligated to take. There are no cargoes in the forward queue that have been canceled by our customers. We have scheduled months out, and we have zero cancellations."

As Freeport LNG operates on a tolling model, buyers of the LNG produced there are responsible for the procurement and delivery of feedgas supply to the liquefaction facility, as well as arranging shipping and deciding where the cargoes are delivered. That limits the upside for Freeport LNG, but also protects against the downside.

DEAL STRUCTURES

On the sidelines of the Gastech conference in Houston in September 2019, Smith said Freeport LNG may sell excess LNG on a spot basis rather than through its traditional tolling model.

He also said at that time that Freeport LNG would consider alternative deal structures as it works to commercialize a fourth train. Options would include sale and purchase agreements, or SPAs, similar to take-or-pay contracts that US LNG pioneer Cheniere Energy used to commercialize its flagship Sabine Pass LNG terminal in Louisiana.

In Wednesday's interview, Smith said what he is really focused on is the trend line that suggests that over the long term, demand for US natural gas, and in particular LNG, will be high, albeit among a smaller set of customers than were calling one or two years ago.

"The over-supply, that is a short-term issue. It really doesn't have that much effect on a project that can start up in 2024 for us, and even longer for a greenfield project we are competing with," Smith said. "The only effect that has is they use the weaker market to try to negotiate for lower pricing."