How Doha proved the sceptics wrong with gas trains

10 April 2009

Building two of the world’s largest gas trains simultaneously has been a major challenge, but the first supplies have now been delivered.

Nearly seven years after a heads of agreement was signed by Qatar Petroleum (QP) and the US’ ExxonMobil Corporation, the first liquefied natural gas (LNG) shipments from train 4 of the $12bn Qatargas II project were delivered to UK shores on 20 March.

Supply is scheduled to eventually hit 7.8 million tonnes a year (t/y) from train 4, while train 5, the second train of Qatargas’s joint venture with Exxon and France’s Total, will provide another 7.8 million t/y by early 2010.

Scheduling and implementing two world-scale projects simultaneously was an enormous risk for both shareholders and Qatargas.

But despite the enormous technical challenges associated with the engineering, procurement and construction of two such massive projects, Qatar has delivered on its promise.

The Qatargas II project has revolutionised the way LNG is produced and delivered, creating a new model not only for Qatar but for global energy supplies. Ahmed al-Khulaifi, chief operating officer for commercial and shipping at Qatargas, says being able to control gas “from the wellhead to the market” is the unique aspect of the project.

“We are responsible from drilling, pipeline to onshore, the trains, shipping it to the UK, receiving it in the terminal, processing, regasifying and sending it via pipeline to people in the UK,” says Al-Khulaifi.

While Qatar is now comfortably the world’s largest LNG producer, it faced scepticism in the industry when the idea of building two of the largest ever LNG trains at the same time was floated earlier this decade.

Al-Khulaifi says the company started thinking about potential markets for the output from train 4 in 2000. Talks were carried out with a host of potential European countries over a 12-month period, but agreements failed to materialise.

“It was in September 2001 when Exxon could see that we were looking at markets to supply this LNG and it had a plan for the UK,” says Al-Khulaifi. “At that time we had not heard that the UK was even looking for LNG.”

Industry concerns

He recalls that with Qatar just starting to make its name in the LNG industry, there was some difficulty in convincing UK experts of the scale of its idea.

“We found one consultant in the UK and told him we had an idea,” says Al-Khulaifi. “So we went to his office in the UK. He asked what we wanted and we said ‘we are going to supply you with 20 per cent of the gas for the UK’. He was kind of shocked. People did not take our pledge seriously back then.”

Al-Khulaifi says Exxon’s involvement was critical for moving the project forward, along with its idea to partner with Qatar in four LNG trains, split between Qatargas and Ras Laffan Liquefied Natural Gas Company (RasGas). “Exxon proposed the idea of the UK market,” says Al-Khulaifi. “It said it would become a buyer and a partner. It was significant because this was the first time Qatar had an inter-national oil company that had become a buyer and a partner [in an LNG venture].”

Al-Khulaifi says the scale of the Qatargas II venture expanded as new shareholders and companies brought their ideas on board.

“We told shipbuilders what we were looking for from a marketing perspective,” he says. “It was long shipping voyages and reducing the cost of shipping. Nothing had been built of the size that we needed for Qatargas II before.”

The result of these talks was the introduction of a new breed of larger LNG carrier ships: the Q-flex, with capacity of 210,000 cubic metres, and the 260,000-cubic-metre Q-max.

Qatar Gas Transport Company (Nakilat) was created in 2004 and given the task of reinventing the delivery system for transporting Qatari LNG. “For Qatargas I, we farmed out a lot of operations, in terms of shipping, to the Japanese,” says Muhammad Ghannam, managing director of Nakilat. “But with Qatargas II, we went one step further by aligning ourselves with the right partners and buying the ships outright.”

Balancing innovation with risk has turned the shipping arm of Qatar’s LNG industry into an important component of the overall LNG chain. “We were looking for economies of scale and innovations wherever possible, and I think that will be one of the legacies of this Qatargas II project,” says Andy Richardson, shipping manager for Qatargas.

By 2010, Nakilat will own 54 LNG vessels, making it one of the largest LNG ship owners in the world.

Increased risk

Although Al-Khulaifi can rightly claim some of the credit for the commercial idea of the Qatargas II venture, he cautions it is not without a degree of risk. “We are exposed to a greater risk from the market than we have had before but we see it as a long-term prospect,” he says.

The two joint venture partners on trains 4 and 5 respectively, ExxonMobil and Total, say the unprecedented level of co-operation has spread risk across the LNG industry in Qatar.

“We did anticipate there would be challenges as a shareholder but our role is to make sure we can provide the right level of support and help to Qatargas when it needs it,” says Alex Dodds, general manager for ExxonMobil Corporation.

Total says regular meetings between the joint venture partners have helped to keep knowledge flowing between different teams involved in the schemes. “Every time there was something to be discussed, we have been there to share our experience with train 5 of Qatargas II, and that level of co-operation has cut down a lot of the risk,” says Philippe Guys, managing director of Total Qatar.

Technological innovations have also allowed the venture to progress smoothly. Ching Thye Khoo, chief operating officer for the Qatargas II venture, says the creation of a technology qualification management system has allowed new innovations to be brought on board as the project progresses.

“You cannot answer all of your technology questions right at the early stage,” says Khoo. “But if you did your work right from a management standpoint, you can answer enough questions to say ‘yes, this can work and I have the confidence to plant a lot of money into this project and go for it’.”

Economies of scale from being able to use existing construction facilities at Ras Laffan have also helped to improve efficiency.

“One of the biggest advantages of the Qatargas II project was being able to draw upon facilities from Qatargas I,” says Sheikh Ahmed al-Thani, chief operating officer for engineering and ventures at Qatargas. “The multi-phase flow pipelines implemented in Qatargas I, for instance, between wellhead 3 and the processing platform, was valuable in capturing big savings on the Qatargas II project.”

Despite the logistical feats in implementing Qatargas II, experts warn that demand for the commodity is falling just as supplies start to come on line. UK-based energy consultant Andy Flower says 20-25 million tonnes of extra LNG supply are expected to come on stream this year, despite a forecast that demand will fall by 10 million tonnes compared with 2008.

Flower, who originally dealt with Qatargas in the early 1990s when working for the UK’s BP, says the fall-off in demand, along with sharp drops in LNG prices, makes it a difficult time to enter the market. In December 2008, LNG sold for $9-10 a million BTUs, but that has now dropped to about $4.50 a million BTUs, while in the US prices have plummeted to just $4 a million BTUs, compared with $13 in July 2008, when oil prices hit a high of $147 a barrel.

“It does not mean the LNG will end up without a home because the US and UK markets are very flexible and can put supplies into terminals provided you accept the prevailing price,” says Flower. “But by putting a lot of LNG in the market at once, you may depress the price. That is the risk Qatar faces.”

Despite this warning, he says the Qatari authorities have taken a conservative approach to the economics of the Qatargas II project.

“Qatar recently said it planned these trains for a price of $4 [a million BTUs], so really the current prices we are seeing on the market go back to what Qatar was planning for originally,” Guys explains.

The strength of Qatargas II is its flexibility. “Obviously Qatargas will need to consider the current [market] situation to see if it needs to adapt its marketing policy,” says Guys. “But I think the diversity of these contracts is a tremendous advantage because being able to diversify your clients gives you the chance to adapt to market demand.”

Historically, the sale of LNG has been governed almost exclusively by long-term contracts determining the specific points at which the product could be bought and sold. Qatargas has bucked the trend by signing long-term agreements that allow for its LNG to be diverted to different locations depending on market conditions.

It is an approach that is gaining popularity in the LNG industry. US energy consultant Cambridge Energy Research Associates (Cera) estimates that while 86 per cent of existing LNG supply is dedicated to a specific market, 40 per cent of supply committed for the future is undedicated. Flower says although trains 4 and 5 are committed to the UK market, the final amount received will depend on how demand evolves.

“Qatargas II was originally designed for the UK but Total managed to get involved and has agreed to buy two-thirds of the output from train 5,” says Flower. “Some of it will be in the UK, but some will be sent to the US, Mexico and France. So already they have effectively used the option to sell UK cargoes.”

Under the terms of the Qatargas II contract, any new potential LNG buyer will have to pay for the cost of terminating UK supplies, making it a potential costly exercise for spot buyers.

Japan and South Korea are likely to be the only countries willing to pay a premium, but demand there is insufficient to take up all the slack. Nonetheless, as Qatargas II comes on stream, the spotlight will increasingly fall on Qatargas’s ability to divert products to existing and new markets.

“They have got the flexibility to trade that cargo in other markets, and that is what they have done recently in both Qatargas and RasGas when they signed new supply accords with China, Korea and Thailand,” says Flower. “They need to keep thinking strategically so they can harness all of their product depending on changes in the demand picture in the UK.”

In the worst-case scenario, Qatargas is preparing to only be able to sell 50 per cent of its total cargo from the two trains, but privately maintains that almost all of the supplies will be secured by the UK.

The project has not been immune from the spike in construction costs that has affected all major projects in the Gulf over the past few years. The final cost of Qatargas II is expected to be about $12bn, although few contractors are expected to make the sort of profits they were anticipating when construction contracts were first signed.

Additional payments

Qatargas rebuffed a claim last year for more than $700m in additional payments from the two lead contractors on Qatargas II: Japan’s Chiyoda Corporation and France’s Technip.

US investment bank Citigroup, which tracks the performance of Technip and Chiyoda, says margins for Technip’s onshore work are now “well below” 10 per cent, warning that it is highly exposed to risk when relying on third-party subcontractors.

The problem has been exacerbated by the fact that clients have increasingly been signing lump-sum turnkey deals with contractors, placing virtually all project risk on the latter.

Qatargas’s Khoo says the company may consider changes to its lump-sum approach, but the focus is on getting the next stage of implementation completed.

While there may be some lingering issues on finalising contract negotiations with contractors, Qatargas’s investment appears sound.

“Qatar has the big advantage of the North field, and the upstream investment is largely covered by the revenues from its condensate sales,” says Flower. “It then needs to cover the cost of building the liquefaction plant, shipping and terminals from its LNG revenues.”

Flower says despite the downturn in the global market, Qatar and its joint venture partners will turn a healthy profit.

“Even with today’s prices, the Qatargas II project is still covering the cost of capital and leaving a return,” he explains. “It may be less than it might have hoped for, but I would expect that even with depressed prices, it will still make money.”

Khoo is wary of getting carried away with profitability when there is still considerable work to do before both trains are completed and supplies are delivered to the UK market.

“I think the test will be in the next few years, but let’s just say so far so good,” he says.

Qatargas II: Facts

  • Shareholders: Train 4 - Qatar Petroleum (70%), ExxonMobil (30%). Train 5 - Qatar Petroleum (65%), ExxonMobil (18.3%) and Total (16.7%)

  • Train capacity: Two trains each with capacity of 7.8 million tonnes a year

  • Number of ships: 14 ships ranging from 210,000 to 266,000 cubic metres in capacity

  • Offshore facilities: Platforms - Three. Pipelines - Two at 34 inch

  • First cargo delivered: March 2009

  • Main Market: UK

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