Shell Makes Big Bet on Boom in Natural Gas

05 02, 2013 by The New York Times

As Big Oil increasingly becomes Big Gas, no major petroleum player may have more at stake in the shift than Royal Dutch Shell.

More than any of its rivals, Royal Dutch Shell, which will report its quarterly results on Thursday, is betting its future on the business of bringing natural gas from remote locations like Qatar to energy-hungry destinations like China and Japan.

And while analysts expect the results to show a sharp decline from last year’s first quarter, in part because of disruptions in its Nigerian gas operations, many experts say Shell may eventually show big benefits from its natural gas emphasis.

Increasingly, to make gas a global commodity, companies supercool it into a liquid form for transport on specialized ships. Shell has already invested about $40 billion in liquefied natural gas, or L.N.G., production plants, storage terminals and related systems, and plans to continue pumping money into that business.

Shell now has about 7 percent of the world L.N.G. business, with ambitions to more than double that share through new projects and acquisitions. Last year, L.N.G. and related businesses earned Shell $9.4 billion of its $25.1 billion in profit.

“We are in the lead, and we want to stay in the lead,” Andrew Brown, Shell’s head of international exploration and production, said in a mid-April interview. Mr. Brown said Shell expected global demand for L.N.G. to grow rapidly in the coming years, doubling by 2025 to about 500 million tons a year, the equivalent of about 4.5 billion barrels of oil, making it by far the fastest-growing fuel.

The main reason for the anticipated growth is that natural gas is abundant. And because of the U.S shale gas boom, it has become relatively cheap — especially in North America, where prices lately have been in the range of $4 per million British thermal units, compared with highs of $13 as recently as 2005. The European spot price is around $10 per million B.T.U.’s, and the Asian price around $15; contract prices, often linked to oil, may be higher.

And because it burns much cleaner than either coal or oil, it will very likely stay in favor because its use can help lower the greenhouse gas emissions that are blamed for causing global warming.

To Mr. Brown’s frustration, not everyone gets the message. That is one reason Shell’s big L.N.G. bet is no sure thing.

The United States has wholeheartedly embraced gas. But Europe, mired in economic doldrums, has turned to coal, which is less expensive. This has driven down demand for gas in the region, which in recent decades had been one of the world’s biggest markets for natural gas via pipelines and L.N.G.

Europe does not have “the right balance” in terms of promoting gas, Mr. Brown said. About 75 percent of Shell’s L.N.G. goes to Asia.

As much as anyone, Mr. Brown is responsible for making Shell a gas broker to the world. Before taking his current job, Mr. Brown presided over more than $20 billion in investments in gargantuan installations for turning the extensive gas deposits in Qatar’s North Field into exports in the form of L.N.G. and liquid fuels like diesel.

To build on its lead, Shell agreed in February to buy the L.N.G. business of the Spanish company Repsol for about $6.7 billion. Some industry analysts considered the price too high. But according to Repsol, Shell had to outbid more than dozen competing offers.

The impact of Shell’s L.N.G. investments on the company’s financial performance will, of course, fluctuate from quarter to quarter. The first-quarter results on Thursday are expected to be hurt by a shutdown at a Nigerian L.N.G. plant caused by sabotage. And yet, Shell’s quarter was probably helped by high L.N.G. prices in Japan, which continues to import large quantities of gas since the Fukushima nuclear meltdown in 2011.

Analysts’ consensus forecast anticipates that Shell will report adjusted net profit of $6 billion for the quarter, an 8 percent gain over the preceding quarter, but an 18 percent decline from a year earlier, according to Peter Hutton of RBC Capital Markets in London.

On Tuesday, one of Shell’s main rivals, BP, reported a first-quarter profit of $4.2 billion after adjusting for inventory changes and one-time items, which handily beat analysts’ forecasts. BP, though, continues to emphasize its oil business.

Over the longer run, being a big player in L.N.G. is likely to help Shell outearn its peers, predicted Martijn Rats, an analyst at Morgan Stanley in London. The huge upfront investments of several billion dollars per gas liquefaction plant might seem prohibitive, Mr. Rats said, but those projects “generate large amounts of operating cash flow over two or three decades.”

While L.N.G. projects may not have as high potential returns as some oil fields, it is less risky to build giant gas installations because much of the output is sold in advance and the plants require relatively little capital expenditure once up and running. The steady cash from L.N.G., which at current prices produces profit margins of 10 percent to 15 percent, can be used to finance riskier activities.

One risk for Shell is that an anticipated export surge from North America leads to a plunge in the much higher prices for gas in Europe and Asia.

“Assuming that there are large volumes of L.N.G. exports from North America, the price differences between U.S. and Asia and especially U.S. and European gas are likely to be substantially reduced,” said Christopher Goncalves, an analyst at the Berkeley Research Group in Washington. But Mr. Goncalves said the differences would probably not disappear, because shipping and liquefaction added several dollars to the cost of L.N.G.

Shell is trying to further stoke demand for L.N.G. by making it easier to use the chilled gas as a transportation fuel. In Europe, the company recently chartered two L.N.G.-powered tanker barges to ply the busy Rhine waterway. It appears to be a first step in trying to persuade shippers to shift to L.N.G.-powered craft to transport diesel fuel or gasoline. According to the barges’ maker, Peters Shipyards in the Netherlands, they emit 25 percent less carbon dioxide than their oil-powered counterparts, while running much quieter.

Europe is tightening regulations on emissions from shipping, particularly in inland waterways, Mr. Rats said, and L.N.G.-powered ships are an economically sound means of complying. Last year Shell bought a Norwegian company, Gasnor, that supplies L.N.G. fuel to ships as a fuel. Shell is also building operations to provide fuel for L.N.G.-powered trucks along a route in western Canada and has plans to do the same in the United States.

So far the use of L.N.G. in transportation is negligible; about 16 million cars and trucks are powered by gas, which is just 1.5 percent of the world’s road vehicles. Morgan Stanley calculates that the gas now used by these cars and trucks replaces about 1.2 million barrels per day of oil products. Under optimistic forecasts, that use in 10 years could rise to 5.6 million barrels a day, or around 7 percent of 2012 oil supplies.

Meanwhile, Shell is trying to lower the capital cost of L.N.G. to make it feasible in even more remote offshore locations, by building liquefaction plants on what amount to enormous barges, bigger than aircraft carriers. The first such vessel destined for an offshore field in Western Australia is being built in a South Korean shipyard, where Mr. Brown says it can be done “cost effectively” — compared with Australia, where labor and other costs have recently risen sharply.

Shell wants to come up with a standard design for these floating L.N.G. plants and gradually introduce them around the world. A candidate for one of the vessels is a field called Abadi in Indonesia, where Shell has a 30 percent stake.

This week Shell and Woodside, an Australian company in which it owns a 24 percent stake, agreed to work on a floating L.N.G. plant for Woodside’s estimated $45 billion Browse offshore gas project in Australia.

And where is the L.N.G.-liquefaction building boom likely to be after Qatar and Australia? North America, Mr. Brown says.