US oil major Chevron is struggling to lock-in 20-year sales contracts for its Gorgon liquefied natural gas (LNG) export plant in Australia, the world's most expensive, as buyers spoiled for choice from new suppliers hold out for cheaper deals.
The high level of unsold LNG shows how the US shale gas boom has played havoc with major investments now coming to fruition in Australia, and threatens to undermine the industry's traditional sales model where projects tie up forward sales in long-term contracts.
Nearly $US200 billion worth of gas projects are nearing completion in Australia, with seven LNG projects due to start exporting gas between late 2014 and 2017, making the country the world's largest producer of the fuel.
As well as Gorgon, other projects include BG Group's Curtis Island, Conoco and Origin's Australia Pacific, Inpex's Ichthys, Shell's Prelude and Santos' Gladstone.
But with LNG exports from the United States due to begin next year, buyers are more cautious about locking in 20-25 year contracts. For the Australian mega-projects, already stung by soaring costs, this means more uncertainty.
"Buyers are being very cautious about firming up long-term import deals, especially since U.S. prices are undercutting Australian projects coming onstream around the same time," said a source at a large Asian LNG seller, who asked not to be named.
"There's a lot of confusion about which are the best deals given there are so many pricing options on offer from different regions," he added.
With a price-tag of $US54 billion, Chevron's Gorgon project is expected to start up in mid-2015 but has so far locked in sales for just 65 percent of its share of capacity, which leaves it highly exposed to the risk of falls in the spot price. Chevron intends to trade its unsold long-term output on the spot market.
Given the huge cost of development, LNG project backers usually look to lock in contracts for at least 85 per cent of production, guaranteeing a fixed return for the bulk of their output. Gorgon has locked in sales with Japanese utilities including Tokyo Gas and Chubu Electric, which have both stakes in the project.
"With the degree of uncertainty that there is about US exports and the size of US exports, I think you can understand why buyers might want to wait a little bit to see how that all lands out before going forward to secure longer-term contracts," Chevron chief financial officer Pat Yarrington told a recent briefing.
However, the company acknowledged the difficulties it faced, saying it would prefer to move buyers to a longer-term sales contract "if we get the right kind of pricing," according to George Kirkland, executive vice-president of the upstream gas division. Chevron declined further comment.
Chevron initially planned to sell at least 85 per cent of Gorgon output to long-term customers, betting that rising demand in the world's biggest LNG consumer, Asia, would keep prices high enough to pay back project costs, originally pegged at $US37 billion in 2009.
Two events radically changed that calculation. An unconventional drilling boom has transformed the United States into the world's top natural gas producer and opened the door to substantial exports of LNG - already deals have been signed to sell in excess of 30 million tonnes of US LNG, equal to about a third of Japan's annual imports.
A wave of new supply globally is also weighing on long-term prices, at a time when Asian demand growth is slowing.
Chevron's prediction that global LNG demand will almost double by 2025 - requiring more than 100 million tonnes of new supply - may be true, but will not guarantee it an easy ride.
Facing the same problem, rival Woodside Petroleum, which is developing the Browse floating LNG project in Australia, is building an LNG trading business, including a 20-year deal to buy US LNG.
The aim is to be able to supply customers with LNG from any source - rather than just its own fields - and with a range of pricing models, keeping the company from having to sign long-term contracts at the bottom of the market.
"The best way to protect the value of these projects, in fact, is to not be at the mercy of when buyers are able to sign up," Woodside CEO Peter Coleman said this week.
Spot prices slump
The vulnerability of producers is reflected in a near 50 per cent price fall for Asian spot cargoes in recent months to three-and-a-half year lows, which has taken spot LNG well below long-term oil-linked contracts and surprised many industry players.
"It doesn't look to be so rosy in the near term as they originally thought," said a Singapore-based LNG trader, referring to large Australian export projects.
"(But) over the longer term, selling those volumes on the spot market may still end up being a sensible move," he said.
Others, however, expect spot prices to trend even lower or at least remain bogged down as new US and Australian LNG supplies hit the market from next year.
"Producers think they can actually buy their own LNG, resell it on the spot market and make money. I think that's a very naive way of thinking," said Vivek Chandra, chief executive at US-based Texas LNG, which aims to begin exports of 2 million tonnes a year to Asia in 2018.
The reluctance of buyers to enter into long-term contracts may also have implications for projects still on the drawing board in Australia, where another $US180 billion of new or expanded LNG projects from 2018 onwards is being considered.
"Going ahead, we don't see any planned Australian projects or expansions based on our analysis. Nothing. Not one," said Noelle Leonard, an LNG consultant at FG Energy in Perth.