It seems the hype that greeted Mozambique’s gas discoveries has changed to a more sober reflection of the scale of the challenge in hand, writes Sarah Rundell.
When US oil company Anadarko and Italy’s multinational oil group ENI found huge natural gas reserves in the waters off Mozambique five years ago, there was a chance Mozambique would see its first liquefied natural gas (LNG) exports this year. As it stands, their final investment decision has been put back until later in the year. Combined with all the unfolding challenges of building an industry from scratch in a remote part of Africa, LNG exports are still years away. All the while the project has run into strong headwinds from the crash in oil prices, to which Mozambique’s LNG prices will be linked, and the global glut in LNG as new production comes on stream to soak up demand from key Asian buyers.
Mozambique’s Rovuma Basin holds some of the world’s largest oil and gas reserves, estimated to collectively exceed 160 trillion cubic feet.
When developed, these reserves could transform one of the world’s poorest countries into a global supplier of LNG alongside industry trailblazers Qatar and Australia. Standard Bank predicts it will usher in “large and unprecedented economic gains” for the government and its people worth some US$39bn by 2035.
It is anticipated that offshore wells will connect to a subsea pipeline network that will bring the gas onshore to a giant processing site. Following processing and cleaning, the gas will pass through one of multiple trains which reduces the temperature to approximately -160° Celsius. It will then be pumped onto special LNG carriers which transport the liquid gas to foreign buyers. The first phase of the project has an estimated US$15bn price tag and involves the construction of two trains with an initial output of 12 million tonnes a year.
The new industry based out of Mozambique’s northern towns of Pemba and Palma will need improved ports, roads, airports and also hotels, housing, shops, restaurants, schools and hospitals. Mozambique’s gas discoveries will trigger other transformations such as gas-to-power electricity generation in the power-starved nation, plus trade and investment opportunities in a ripple effect across manufacturing and exports such as fertiliser and petrochemical industries.
Investing in Mozambique is a challenge, even for seasoned oil and gas groups. The country’s credit rating is well below investment grade with Standard and Poor’s downgrading its long-term rating from B to B- in July last year: the currency is under pressure, foreign currency reserves are depleted and the downturn in commodity prices all indicate that 2016 will be a tough year.
The recent controversy surrounding Empresa Moçambicana de Atum, EMATUM, a state-owned tuna-fishing company that has been unable to repay international loans, has raised questions about the government’s ability to manage its own companies. “Mozambique’s main problem is debt,” says Robert Besseling, executive director of risk intelligence consultancy Exx Africa. “There has been much squandering of government resources and spending of oil and gas revenue before they have been earned.” Political uncertainty also comes with renewed tensions between the ruling FRELIMO party and the main opposition, RENAMO. While few commentators believe that there is a risk of a return to civil war, investors are monitoring the tensions between the two parties.
To date, no greenfield LNG projects in Africa have secured customers from premium Asian buyers, meaning a stable political, fiscal and regulatory framework to secure the long-term buyers needed to develop the project is essential.
And it is on this point the project is currently stuck. Long-term contracts with Asian buyers are key to financing the project because export credit agencies, banks and other financiers want the lengthy contracts as security for the large, upfront funds they provide. But Anadarko and ENI are struggling to secure the price and terms of the binding contracts that will usher in the finance because of oversupply in the LNG market. Encouragingly, BP recently agreed to offtake LNG from ENI’s Coral floating LNG project in offshore Mozambique where the gas is taken and loaded out at sea in a different, more complex process. But Anadarko is still in the process of finalising contracts.
The problem lies with the wave of new LNG production on stream and in the pipeline. The US shale boom has transformed the market: in its medium-term gas outlook, the International Energy Agency (IEA) predicts the US will emerge as the third-largest LNG exporter by 2019. Elsewhere, the high LNG prices of recent years have encouraged companies to embark on new projects worldwide, now on stream just as China’s economic slowdown has begun to dampen demand.
Chinese demand declined 2% in 2015 following years of double-digit growth, says Wood Mackenzie’s global LNG review. According to analysis from Energy Aspects, prices for LNG in the key northeast Asian market are down 70% from the peak in 2013. It means that few buyers want to lock in prices now for decades ahead when they may fall further. “You have to ask why an offtaker would lock into contracts now when next year prices might be lower,” asks Celine Paton, an energy consultant at Frost & Sullivan in South Africa. “For the biggest Asian buyers of LNG, it is easier to buy from producers in Australia and Qatar than Mozambique anyway,” she adds.
Of course markets change. Nobody foresaw Japan’s devastating 2011 earthquake, which led the government to shut down nuclear power and pushed up demand for gas. But most analysts agree that given the current climate, global gas prices will stay low in the short and medium term. Positively, one market expert observed that “all buyers” want Mozambique to develop its LNG sector because of the diversification it will bring to the global LNG market. Likening the current struggle to secure contracts to “a game of chicken” between buyers and sponsors, he says buyers are testing how long they can delay signing contracts, but will pull back if it comes to endangering the project itself. One silver lining of the current climate is that it could help Mozambique’s developers secure cheaper deals with service providers because of less competition for global oil and gas services.
The low oil price has also played a role in delaying a final investment decision in Mozambique in another way. It has weighed on profits at the sponsor companies which need to hold onto their cashflow for dividend payments. It will make funding the equity contributions required within the giant deal challenging, explains Paul Eardley-Taylor, head of oil and gas for Southern Africa at Standard Bank in Johannesburg. “Given the protracted low oil price, we would imagine the sponsors will closely monitor their free cashflow for equity contributions and completion support.
Secondly, the global supply and demand balance of LNG is likely to ensure that finding long-term contracts will be critical to achieving project final investment decision (FID).” He adds: “Over the last few years Mozambique has undertaken an important educational exercise with regards to developing its global energy project, taking all the necessary steps a keen host government could. Now the LNG market conditions will dictate the timing of FID.”
Going forward, the financial clout of the sponsors will change. As and when the project approaches financial close Anadarko is likely to ‘farm down’, selling a share of the project to a bigger oil group bringing in both more LNG expertise and financial muscle. Rumoured partners include Exxon Mobile and China’s Sinopec. How Mozambique’s Empresa Nacional de Hidrocarbonetos will raise funds to cover its share in the projects is another hurdle. It has a 15% stake in the Anadarko consortium and a 10% share of the ENI project.
Ready to pounce
All the while lenders to the project are waiting. ECAs from the US, China, Italy and Japan are expected to provide debt to the project. “Sace has expressed its interest to the financial advisors of the various projects to support the funding of procurement involving Italian companies,” says Michael Creighton, head of Sace’s office in Johannesburg, who compares the challenges of Mozambique’s LNG to Papua New Guinea’s 2009 LNG, where the agency guaranteed loans of almost US$1bn for the construction of gas pipelines and natural gas extraction and liquefaction facility.
So far, Sace says support will come via ENI, the principal operator of Area 4, and Saipem, an Italian oil and gas industry contractor involved in part of the contracting consortium awarded the development of the LNG plant for Area 1. Mozambique is keen to use its gas reserves to support the development of local industries and wants foreign companies to invest in local manufacturing and set up local joint ventures to develop and nurture its own industries. Sace’s Creighton sees a “valuable opportunity” for Italian companies both in the emerging gas sector and for SMEs in the support infrastructure needed, but flags potential problems within joint ventures. “International companies should monitor the government’s view towards foreign companies. Joint ventures can be extremely tricky, in particular finding the right business partner,” he warns. The government is understandably pushing for local content, however, given the weakness of its private sector, it is difficult to comprehend how this will initially be achieved, he questions. Mozambique’s insistence on joint ventures could further affect the timeline, says Kevin Atkins, international partner at Chadbourne & Parke in London. “Agreements as to intellectual property ownership and know-how development will need to be made among the joint venture parties,” he says.
Investors will also need more government clarity on other issues such as its requirement in the new petroleum law that oil and gas producers list on Mozambique’s stock exchange. So far there is no additional information on the timeframe, or the amount of share capital companies would be required to list, says Atkins. Current institutional capacity within the government to oversee and administer the emerging industry, as well as the lack of skilled Mozambicans with sufficient oil and gas experience at this early stage, is another concern.
Developers will also have to put in place a re-settlement plan for Mozambicans who will have to leave their homes in the area around where the LNG facilities will be built. Brazil’s mining giant Vale re-settled communities in Mozambique’s Tete province where it was developing coal but the process led to widespread criticism and protests in 2012.
In an important milestone reached at the end of 2015, Mozambique agreed the amount of gas it will take for the domestic market: an encouraging sign that the project is progressing – just slowly. It’s just the longer Mozambique’s new LNG exporters wait to reach financial close, the more uncertainty and risk around the project’s profitability will grow, leaving it further delayed or even postponed altogether.