Special report: Finance
Plenty of options for LNG
As the US is poised to become a major gas exporter, operators are seeing a broader range of
finance options, writes Inosi Nyatta*
L
IQUEFIED natural gas (LNG) export projects made up a
significant portion of project finance activity in 2014,
including a number of large projects in North America.
This reflects a trend in the growing prominence of LNG
export projects, particularly post-financial crisis.
Due to the high capital requirements of these projects,
those that have closed debt financings have generally
sourced the debt from multiple and varied financing
sources. This includes recent US LNG financings, which
have incurred debt from commercial bank, bond and
export credit agency (ECA) lenders.
Cameron LNG and other US projects illustrate some of
the developing themes in LNG export project financing.
Table 1 illustrates the significant capital costs of LNG
export projects.
Table 1: capital costs of LNG export projects
Project
Freeport
Cameron
Sabine Pass (initial financing)
Ichthys
Australia-Pacific LNG (liquefaction project)
PNG LNG (initial financing)
Financial Close
Nov 2014
Oct 2014
May 2013
Jan 2013
Sep 2012
Mar 2010
Total Cost No. of Trains
$10.9 billion
2
$10.9 billion
3
$7.9 billion
4
$34 billion
2
$12.9 billion
2
$18.2 billion
Source: Infrastructure Journal
The surge in shale-gas production in the US has led
to increased gas availability and the possibility of LNG
exports from the US, based on Henry Hub pricing. As a
result, US LNG export project development began primarily with conversion of gas import terminals to LNG
export terminals (eg Cameron, Sabine Pass, Freeport,
Cove Point), but greenfield developments have begun as
well (eg Jordan Cove, Corpus Christi).
The rapid development in the US of LNG projects,
starting with the conversion of import terminals and the
rapidly planned expansions of these projects and the
development of new greenfield projects, is putting the
US at the forefront of the LNG export industry. More than
40% of worldwide proposed pre-final investment decision
(FID) liquefaction capacity is in the US, according to
the International Gas Union’s 2014 World LNG Report,
though “[r]egulatory obstacles, combined with potential
Henry Hub volatility and the limits of global LNG demand,
will likely contain the number of projects coming online
through the end of the decade”.
The prominence of US LNG projects and their pricing
based on Henry Hub rather than the more traditional
oil-linked indices has opened up a new pricing paradigm
for LNG. The impact of this development creates growing
competition based on more flexible LNG pricing, which
may be driven in large part by the export terminal location
in or outside the US or the ability of sellers to source gas
using a portfolio approach.
The significant capital needs of LNG projects have
required sponsors to tap multiple sources of third party
financing to fund construction. Export credit agencies
have traditionally played and continue to play a leading
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role in large project financings, with commercial banks
also being key sources of financing liquidity, particularly
during the construction phase of these projects.
However, experience has shown that commercial banks
can be subject to capacity constraints, especially for projects in countries with higher real or perceived political/
country risk, and market volatility, as was the case in and
for a while after the 2008 financial crisis.
With the rise in US projects has come a renewed attention on project bonds, which were first used in connection
with the Qatari LNG projects starting in the mid-1990s.
The depth of US debt markets, particularly for US issuers,
has created attractive opportunities for the refinancing of
initial bank debt. This has enabled a couple of US projects
to use a “mini-perm” structure even for LNG projects with
capital expenditure needs well into the multibillion dollar
range.
The Sabine Pass project, for example, has already
terminated over $2 billion of the $5.9 billion credit
facilities the project entered into in May 2013 through
successive note offerings. For non-US markets, however,
the availability of project bonds may remain more constrained; these are subject to general emerging market
risk and political/country risk appetite. In emerging
markets, project bonds would likely be more generally
available for refinancing projects that are complete or in
countries that are investment grade (or near investment
grade) that have a positive track record in international
debt markets.
Traditionally, LNG export projects (which were historically outside the US) were financed with long tenor debt,
typically over 15 to 16 years. This long tenor debt is
mostly available from ECAs, paired with commercial bank
project finance loans and/or project bonds. The Qatari
LNG project bonds issued in 1996, for example, had
tenors of 10 and 20 years. US projects, however, have
access to the “mini-perm” market (that is, loans with
tenor closer to five to 10 years), which is supported by the
depth and strength of the US debt capital markets for US
issuers as a mitigant to refinancing risk.
For projects with significant capital requirements such
as LNG export projects, it seems unlikely that the miniperm structure will extend outside of the US, particularly
to emerging markets. This is partly because these projects are more likely to require a significant component of
ECA debt, and the ECAs’ more conservative approach to
refinancing risk limits the ability of ECA-financed projects
using a mini-perm structure (although recent reports
indicate that JBIC may be willing to consider “soft” miniperms, which, instead of requiring repayment after the
seven to 10 year period, merely go up in cost for the
remainder of the loan, for certain types of projects in certain regions). Even if the availability of mini-perms outside
of the US expands, the greater uncertainty surrounding
the ability to refinance projects in emerging markets
during the life of the project may constrain their utilisation. Conversely, the financing obtained by the Cameron
project illustrates that strong US projects can also access
longer tenor debt, including from commercial banks.
Because of the growth in LNG projects globally,
many projects are in jurisdictions with new or changing
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Special report: Finance
regulatory regimes. For instance, the processes for
obtaining authorisation from the US Department of
Energy (DOE) under the Natural Gas Act for export of
natural gas from the US to non-free trade agreement (FTA)
countries was virtually untested until 2010 and continues
to attract attention from lenders concerned with regulatory and perceived political risk in connection with the
issuance and maintenance of export authorisations.
A similar process of familiarisation is under way with
respect to the projects being proposed and in development in Canada, and the interplay between the US and
Canadian regulatory regimes in projects located near the
border may complicate this further.
The recent dramatic changes to the regulatory landscape of Mexico’s energy sector are still being processed
and will affect any projects there; similarly, new regulations dealing with oil and gas in East Africa will need to be
evaluated closely.
Understanding and getting equity investors and lenders
comfortable with the applicable regulatory regime will
continue to be a key part of any successful project development and financing.
The LNG market now includes projects that utilise a
tolling offtake arrangement instead of the traditional integrated buy-sell project model. Cameron was the first LNG
export project to adopt a true tolling structure; Freeport
has subsequently adopted a tolling structure. The tolling
model turns a number of project risks into tolling customer credit risk, so the credit story of tolling customers
and the terms of the tolling agreement become crucial in
projects that elect to use tolling.
In particular, lenders will tend to focus on any exceptions to “toll or pay” requirements in the tolling agreement
and generally require detailed diligence and advice in
order to get comfortable that any risks not being borne by
the tolling customer are acceptable. Furthermore, even
for projects that use a tolling model, lenders and rating
agencies may still require some limited visibility into the
project’s offtake strategy and arrangements – ECAs often
are particularly focused on this issue in the context of
import financing.
In the US alone, 31 applications for export of about
27.9 billion cubic feet per day (cf/d) of LNG to non-FTA
countries are currently under review at the DOE, while
nine applications (for about 10.6 billion cf/d) have already
been finally or conditionally approved. Although it remains
unclear on what timetable the pending and subsequent
*Inosi Nyatta,
a partner
in Sullivan
& Cromwell
LLP’s project
development
and finance
group, who
has advised on
a number of
successful LNG
projects within
and outside the
US, assisted
by Alex Stein,
an associate
at Sullivan &
Cromwell LLP
Figure 1: Proportion of initial financing by ECAS (% of total
non-sponsor debt financing)
US$billion
18
Active ECAs
16
China Exim
COFACE
EDC
EFIC
JBIC
KEXIM
14
12
10
70%
8
66%
6
KfW
K-SURE
NEXI
SACE
US Exim
81%
58%
4
46%
25%
2
0
Ichthys
APLNG
PNG LNG
Cameron
ECA direct and covered tranches
Source: Infrastructure Journal
www.petroleum-economist.com
Sabine Pass
Freeport
Other non-sponsor debt financing
applications will receive authorisations from the DOE, new
projects are adding themselves to the queue frequently.
Significant additional projects globally in markets
with new gas discoveries, including Mozambique and
Tanzania, and the changes to Mexico’s energy regulatory
regime could encourage LNG export projects there as
well. In addition to any potential impact on LNG prices
that this growth could create, LNG projects could start
to run up against capacity limits on the part of lenders,
operators and contractors.
Commercial banks and other institutional lenders
could start to face sector or country constraints on
the quantum they can lend to any given sector and/or
country. Furthermore, the rapid growth in the number of
projects could result in significant competition for contractors and operators with sufficient expertise to build and
operate their projects. These trends, if continued, could
lead to both higher costs of financing, construction and
operations.
The recent drop in oil prices may cause some projects
that were counting on high oil-linked LNG prices to reconsider their feasibility. Furthermore, low oil prices may
impact LNG marketing, as LNG buyers take more time
to analyse projects with oil-linked as opposed to Henry
Hub linked prices. More competition can be expected to
continue between the two pricing models. To the extent
that there is a strong supply of LNG from projects benefiting from low natural gas prices, a number of potential
LNG export projects currently in the pipeline may be
reconsidered completely.
Given the various challenges facing LNG projects, support from the project sponsors – both in terms of expertise and management – remains crucial for any project
to succeed. Multiple sponsors can clearly strengthen
the project’s credit and access to financial and other
resources, but it is equally important that sponsors are
aligned in their commercial objectives for the project
as complex negotiations ensue regarding construction,
operation, sourcing, sales and financing arrangements.
As with other projects, more simple contractual and
commercial arrangements in LNG projects ease the path
to the development and financing the project. However,
as the scope of potential LNG projects grows, including
based on conventional gas, unconventional gas and gas
purchased from the grid, more novel approaches and
structures are likely to develop to optimise operational
efficiencies, commercial objectives and economies of
scale, including sharing of facilities and pooling of operations across differently owned facilities.
These more complex structures can also be financeable if they are appropriately structured in a manner
that enables lenders, equity holders and other project
participants to understand the risk allocation embedded
in these arrangements. This enables project participants
to adequately understand and mitigate these risks.
Efficient and timely development of an LNG export
project requires that multiple teams work together and
coordinate on tasks that require vastly different areas of
expertise. At the same time that financing documents are
being drafted and negotiated, commercial arrangements
with engineering, procurement and construction contractors, LNG buyers and tolling customers may be being
finalised and regulatory applications prepared, processed
and evaluated. As many of these commercial, regulatory and financing workstreams will develop in parallel,
successfully financed projects are generally based on
efficiently organized and coordinated teams of sponsors
and advisors working together to meet required deadlines
and targets.•
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