Collapsing Prices Strain the Global LNG Supply Chain
Written on 11 March 2020 by Theodore Michael, LNG Analyst, Genscape, Inc.
North America: Collapsing gas prices strain the supply chain; Say’s Law: Supply creates its own demand; Deflation moves downstream: Powergen margins; Financial stress drives demand for data. These are all factors on the strain of collapsing prices on the global LNG supply chain, according to Genscape.
North America: Collapsing gas prices strain the supply chain
The enormous boom in gas production unleashed through fracking technology has collapsed prices in North America to levels last seen in the 1990’s. Coupled with a record warm winter, cash prices have fallen below $2.00. With the arrival of spring, storage build into the summer looks to break capacity.
The collapse in prices has destroyed the revenue source not only for producers but threatens the entire infrastructure supply chain. Most ominously Chesapeake, the largest producer in the Marcellus Utica Gas Super Giant, has threatened bankruptcy. Chesapeake spends more than $600 million a year on pipeline tariffs to haul its prolific production to market. Energy infrastructure investment and credit markets came under pressure as investors sold, fearing the ripple effect of a Chesapeake or similar default on payments. Energy Transfer Partners is attempting to close the recent purchase of the William’s pipeline system which includes the largest gathering network in the Marcellus fields. In addition the Williams purchase includes the North South continental long haul Transco pipeline system. The long haul carrier capable of moving 100 bcma, south to LNG terminals under construction along the Gulf of Mexico.
Chesapeake is not alone, many natural gas producers are under stress or entering bankruptcy their distress becomes the distress of the supply chain moving gas to market and the system that finances them.
Say’s Law: Supply creates its own demand
The U.S. has seen gas production rise from 500 bcma in 2005 to 740 bcma today with projections to hit 1000 bcma in 2020. Much of this production growth is centered around the Giant Marcellus Utica formations. Production estimates for the Marcellus Super Giant complex in 2020 reach 300 bcma with current shut in gas as high as 150 bcma. The entire production growth is missing one key ingredient; the demand to finance some 150 bcma of pipeline export capacity. And that is the essence of our tale. Massive supply growth has lead to a price collapse without the demand to drive takeaway capacity. The Launch of Chenier’s first export cargo to Brazil aboard the Asia Vision signaled the start of new era. LNG exports are the primary source of new demand and potential relief for creditors and investors along the entire supply chain.
LNG exports are the recourse to oversupply. Whether current producers can weather the storm is under scrutiny. Relief is coming with 85 bcma of export demand under construction; but may still prove unsatisfactory as current construction won’t reach full commercial operations until 2018 or beyond. One more warm winter and the edifice may crack. Yet bankruptcy doesn’t remove the gas, the pipelines, or drilling supply chain, it just changes owners and at lower prices. Losses are absorbed and the new producer or pipeline owner is back online, with lower capital and operating costs. Any drop in production will be met with new supply.
Deflation moves downstream: Powergen margins
Balance sheets along the entire supply chain will be impaired and the most leveraged or exposed to price competition may be pressed to bankruptcy. Not only in gas, but in the power markets where gas sets the marginal price in the dispatch stack. European demand may prove a boon to North American infrastructure creditors and equity holders. Unfortunately, low gas prices are bad news for green and coal powergen. Especially those that relied on high price gas gen to set marginal dispatch. Once gas dispatch prices fall, margins will suffer. Deflation will work downstream from Marcellus into the Atlantic Basin and driving down the cost of marginal gas powergen throughout Europe. The distress once laid on high priced gas dispatch will now turn to coal and green. Driving their revenue and margins lower.
Financial stress drives demand for data
The breakup of vertical integration has disintermediated information, driven complexity, and given rise to demand for data. Creditors now are exposed to default from weak links in the infrastructure chain. Monitoring the flow of molecules is now of key importance to debt and equity holders.
Should EU prices or Gazprom strategy turn back U.S. LNG, expect financial stress to ripple back up the U.S. supply chain, tripping pipeline and producer covenants. Trading and supply operations in turn must look “over the horizon” to disruptions either upstream or downstream. European asset owners must look to their own exposure. Just as real estate developers monitor occupancy and traffic flow, energy asset holders must do the same. The more the supply chain virtually integrates, the more contractual parties stand on their own and the more vulnerable creditors are to a collapse in margins and the liquidity squeeze on counterparties.