Ready or not

LNG in the Arctic and its implications. By Shane De Bee

Although hardly noticed in the western business press, a very significant event in the (climate change inflected) development of the Arctic took place in March 2017. The newly constructed LNG tanker Christophe de Margerie called at the port of Sabetta on the Russian Yamal Peninsula in the Barents Sea, in readiness to lift the first cargo of liquefied natural gas to be exported from the Russian Arctic.

As a technical matter alone, this is impressive. Whatever the long-term effects of climate change, the Yamal Peninsula has extremely harsh weather (at the writing of this article in May 2017, for example, the temperature in Sabetta was – 9 C today), and is ice-bound for much of the year. The tanker, named for the previous chairman of Total who tragically died in a plane crash when visiting Moscow and one of 15 Arc7 class vessels that have been ordered for the project, is roughly the size of the Eiffel Tower, and is capable of sailing through ice 2.1 metres thick. The ship is fuelled by re-gasifying a portion of its own cargo, and has a capacity of 172,600 cubic meters of liquefied gas.

The port is a joint venture between the primary gas exporter, Novatek, and the Russian government. Novatek, in turn, is a Russian company owned by Leonid Michelson, the Volga Group (chaired by Gennady Timchenko), Total and Gazprom (as well as publicly traded shares). The LNG liquefaction facility is joint venture called Yamal LNG, formed between Novatek, Total, the Chinese oil company CNPC and the Silk Road Fund. The gas is produced from the Yuzhno (Southern)-Tambeyskoye field, which has proven and probable reserves of 926 billion cubic metres.

Yamal LNG’s impending entry in to the Arctic LNG market stands in contrast to the Shtokman project, in which Total was also a partner. The Shtokman project was conceived in the mid-2000s, when both oil and natural gas prices were at cyclical if not historical highs, and the original concept was for the LNG to be shipped for regasification to North America (although the north eastern route to the Asia Pacific Region was certainly part of the long range planning). In time, Gazprom, the majority owner of the Shtokman project, determined that the gas should be primarily exported by pipeline as the more ambitious LNG project was no longer economically feasible in the low price environment of the 2010s. And indeed by that time the Texas regasification plant that was the intended recipient of Shtokman LNG had been granted approval to refit and convert to a liquefaction plant, in order to export the newly abundant volumes of cheaper US shale gas.

For all the investment, technical prowess and international co-operation required to bring the project to this point (Yamal LNG is bringing the first of three planned trains on line this fall), the business model thus far is surprising. At least the first shipment of LNG loaded on the Christophe de Margerie will be sold on the spot market, and potentially many more, although according Novatek shareholder Michelson, 90 per cent of impending production is already contracted long term, primarily to buyers in the Asia – Pacific region. It is worth reflecting that two pillars of Yamal LNG’s strategy would have been considered fantastic even a decade ago: a spot market for natural gas, and the use of the north eastern route, north of Siberia and through the Barents Sea, east from Europe to the Pacific Ocean, as a shipping route. Given the low production costs for gas on the Yamal Peninsula, this business model appears viable even in the current low gas price environment. Another unpredictable factor, of course, is the climate, but advances in icebreaking technology and fit-outs for vessels have already made shipping possible in current or harsher conditions, and of course the global concern about climate change posits warmer Arctic temperatures in the future. Assuming continuing incremental improvements in the technology of both gas production and LNG tankers, both of these developments appear to be here to stay.

Indeed, the idea of a Pacific spot market for LNG received a further boost from the other side of the Pacific very recently, when language included in a preliminary bilateral trade agreement between China and the US set out next steps for US firms to export LNG to China. There is currently a liquefaction plant operating on the Pacific coast of Mexico (very near the US border), as well as in Peru, and one US liquefaction plant in Alaska, with two more liquefaction plants planned in Canada and two more in Oregon on the Pacific Coast of the US. In short, between the low cost gas in western Siberia and the increase in shale and tight gas production in the US, there are supplies on the horizon that could conceivably support a spot market in LNG in the Asia Pacific Region.

These developments raise a host of interesting questions. With the expected increase in Arctic shipping, will the littoral states increase co-operation on environmental matters or on matters concerning indigenous peoples of the Arctic region? Will gas prices decisively break away from oil prices in a new Pacific-wide spot market? These questions are all now much less theoretical since the question of if there will be LNG production exported from the Arctic has been answered yes.

Shane De Beer is a Partner at Fieldfisher, a European law firm with market leading practices in many of the world’s most dynamic sectors. It is an exciting, forward-thinking organisation with a particular focus on technology, finance & financial services and energy & natural resources. Its growing European network of offices supports an international client base alongside its Silicon Valley and Beijing colleagues. Among its clients are social media sites and high street coffee chains as well as pharmaceutical, life sciences and medical devices companies, energy suppliers, banks and government departments.

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