INSIGHT: LNG changing Mideast petchem patterns

24 April 2008 16:12  [Source: ICIS news]

By John Richardson

SINGAPORE (ICIS news)--Could the Middle East one day no longer be the choice destination for building petrochemical capacity?

This might seem a bizarre question to ask in the midst of the biggest capacity build-up in the history of the region. For example, Saudi Arabia alone is due to add 13m tonnes/year of ethylene capacity between 2000 and 2012.

But the question is being asked by senior western industry executives who see an opportunity to add basic petrochemical capacity via non-gas routes beyond 2012. Perhaps the first task might be, though, to get through the looming oversupply crisis which could last far longer than many people expect.

That aside, though, anybody with a long-term vision needs to examine whether there will be sufficient gas feedstock in the Gulf Cooperation Council (GCC) for another big wave of investment.

Allen Kirkley, vice-president of strategy and portfolio for Shell Chemicals, raised this very important point in a recent presentation.

“Higher engineering and procurement costs and labour issues are already impacting the competitiveness of new Middle East capacity,” he said.

“It is increasingly clear that there are limits to the availability of low-cost ethane in the Middle East. One key reason is the ongoing development of the global liquefied natural gas (LNG) market,” he added.

Kirkley talks about the Middle East as a whole, but maybe it might be more accurate to talk about less investment, or less-advantaged investment, in the GCC region.

Countries such as Egypt are at an earlier stage of petrochemical development and might choose to add further capacity for national development reasons. Feedstock pricing could, as a result, be highly competitive. Iran, meanwhile, has some catching up to do and still has huge potential to add further crackers.

But these are very uncertain investment plays because of bureaucracy in Egypt and politics in Iran.

The big issue - along with tightness of supply - is the emergence of alternative values for gas which didn’t exist a few years ago.

In its June 2007 issue, the ICIS/International e-Chem Middle East report talked about the possibilities of liquefied natural gas (LNG) pricing reaching parity with oil, meaning pricing formulas linked to the price of crude. We also detailed the debate over when or whether a global market would develop for LNG.

“Your comments about oil price parity were interesting because this has occurred over the last two months,” said Helena Wisden, editor, Heren LNG Markets*.

“A supply deal was struck between Qatargas 4 and PetroChina, which equates to $16/million metric British thermal units (mmBtu) at a crude price of just below $90/bbl. The price is based on a formula linked to the cost of oil,” she added. 

The deal - announced earlier this month - will run for 25 years with supply at 3m tonne/year. Qatargas (Qatar Liquefied Gas Co) 4 is a joint venture of Qatar Petroleum and Shell.

Wisden added a similar contract was recently struck between Indonesia’s Pertamina and Japanese power generators - again at oil-price parity.

The shift in LNG markets has occurred partly because the start-up of liquefaction facilities has been delayed due to engineering, labour and raw material shortages.

Meanwhile, many of the receiving or import terminals designed to receive this new capacity are already in place and demand is surging, in China in particular.

If industry forecasts from two or three years ago were to be believed, more liquefaction capacity should soon have been on stream in Russia, Nigeria, Algeria Australia and Iran. But most of the anticipated projects have not progressed, meaning about 70m tonnes/year of liquefaction capacity is not under construction after all.

“The Iranians, currently net gas importers, are being held back by political instability and sanctions which limit their ability to buy the necessary equipment,” said Wisden.

“If Russia ever got its act together it could build much more capacity - not only LNG, but also gas pipelines which would supply northwest China, and eventually alleviate some of the LNG demand in Asia,” she added.

“However, I suspect that such pipelines are at least 20 years away."

The less pipeline gas there is available the tighter LNG markets might remain.

Wisden said that further delays to new liquefaction capacity were also possible.

“High pricing in long-term contracts is here to stay, for the medium-term at least. More immediately, spot prices could easily spike to as high as $23-24/mmbtu this winter - the traditional peak demand season,” she said.

Demand is being boosted by ongoing safety scares at Japanese nuclear power plants. Some 10% of nuclear-based generating capacity has been closed down, forcing LNG-fed stations to run flat out.

Building further nuclear capacity in Japan is going to be very difficult because of public opposition, and plans to build more LNG receiving terminals have been announced.

“This is a long-term shift in the Japanese market. Traditionally, summer prices fall because of lower demand for heating. What we have seen this summer for the first time is pricing in Asia holding up, largely because of the Japanese factor but also due to ongoing problems with LNG storage tanks in South Korea,” Wisden added.

India, which has built several LNG terminals, has become a major source of demand over the last year. This is the result of the booming economy and the backing out of naphtha as a feedstock for power and fertilizer plants.

India, which faces a growing natural gas shortfall, thought it had secured a long-term LNG deal at $3/mmbtu from Iran in 2005.

The Iranians decided to renegotiate the deal when crude increased to around $70/bbl, but now the LNG plants that would have supplied India are delayed indefinitely.

The steep rise in LNG prices has already put paid to Gas Authority of India’s plans for a cracker based on imported LNG at Kerala.

The Oil and Natural Gas Corp mixed-feed cracker, based on imported LNG from Qatar and local naphtha, is however going ahead because offtake deals were secured before the run-up in pricing. The cracker complex is being built near the Dahej LNG terminal in Gujarat, and is due for start-up in early 2012.

Crackers based on imported LNG are in general off the cards, though - no matter where they are located.

Even Middle East project proponents are going to find it harder and harder to prise ethane supply away from the LNG industry. This was the point being made by Shell’s Kirkley and the reason why the long-term planners are looking at other options.

In Qatar, for example, gas supply for petrochemicals is being priced project by project, based on extraction, piping and opportunity costs. Previously, project builders were only charged the cost of piping and extraction.

Qatar project proponents also face the added problem of a temporary moratorium on further exploration of the giant North Field gas reserves. This is the result of concerns over stability of the field because of the rate of previous extraction. The moratorium is expected to be in place until 2010.

The milestone LNG deal between Qatargas 4 and PetroChina is an indication of the tremendous rise in demand for LNG in China.

“Two terminals have been built in China and at least three more are under way, with the possibility that as many as 10 could eventually be completed,” added Wisden.

“The Qatargas and PetroChina deal is the first time oil-price parity has been achieved with a Chinese buyer and signals the seriousness of the country’s ambitions as a major importer,” she said.

So, has a global market emerged for LNG?

“Trade is thin because of the delays in liquefaction plants and so some argue that a global LNG market doesn’t exist,” said Wisden.

“I would disagree as the price for big contract deals, such as the one between Qatar and PetroChina, is the global price and reflects what would have to be paid in the west to secure cargoes.”

Here’s a further scary thought: sellers in the LNG industry are trying to talk up the prospect of pricing eventually being above crude because of the environmental benefits of switching from oil to natural gas consumption.

“If a global carbon-credit trading market takes off this could happen. Using LNG instead of oil would become a good means of gaining credits,” said Wisden.

Rising oil prices, a possible global recession and the biggest capacity surge in the history of the petrochemicals industry are big enough problems by themselves.

Yet another headache is the growing uncertainties over future feedstock supply.

There must, surely, be easier ways of making a living than working in petrochemicals.

* Heren Energy is Europe's leading publisher of gas and power market information and was bought by ICIS in March 2008. Heren Energy publishes a series of reports, providing news, analysis, benchmark price assessments and indexes

By: John Richardson
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