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Low Gas Prices Could Derail Papua New Guinea’s LNG Ambitions

Papua New Guinea first started producing liquefied natural gas (LNG) in April 2014 when the flagship $19bn PNG LNG project came on-line months ahead of schedule. With the project exceeding export expectations, the focus has now shifted to two new projects, which would more than double the country’s LNG production capacity if they come to fruition. However, as the government is determined to reap more economic and social benefits from resource projects than ever before, as of June 2020 an agreement has yet to be reached with investors on the fiscal terms that would allow both proposed developments to proceed in tandem. PNG LNG operates as a joint venture between three PNG companies and three multinational firms. US energy major ExxonMobil has the lead stake in the project, at 33.2%, and was responsible for overseeing its construction. PNG-based, Australian Stock Exchange-listed firm Oil Search has a 29% share, while PNG’s national oil company Kumul Petroleum has 16.8% and Australian energy company Santos owns 13.5%. The remaining minority stakes are divided between JX Nippon Oil and Gas Exploration, a wholly-owned subsidiary of Japan’s JX Holdings, with 4.7%, and PNG’s state-owned Mineral Resources Development Company, with 2.8%.

Projected Growth

An economic impact assessment conducted in 2008 by external consultant ACIL Tasman estimated that GDP would more than double as a result of the project, from PGK8.6bn ($2.5bn) in 2006 to an average of PGK18.2bn ($5.4bn) per year when the project came on-line. ACIL Tasman also estimated that oil and gas exports would more than quadruple compared to 2006 levels, and that the project would create 7500 full-time jobs in the construction phase, 20% of which would go to PNG nationals, as well as 850 full-time-equivalent positions once production began.

Perhaps most importantly for a lower-middle-income country facing significant developmental challenges and fiscal constraints, the assessment predicted that PNG LNG would result in significant revenue for the government and landowners, with taxes, royalty payments, levies and equity participation expected to total $31.7bn over a 30-year period.

Tangible Results

Since PNG LNG began production in 2014, it has provided LNG on long-term contracts for four major clients in the Asia-Pacific region: China Petroleum and Chemical Corporation (Sinopec); Japan’s Osaka Gas Company and Tokyo Electric Power Company; and Taiwan’s CPC Corporation. It has also signed medium-term supply contracts with BP Singapore, PetroChina and Unipec Singapore, a subsidiary of Sinopec. As of April 2019, PNG LNG was committed to supplying a total of 7.9m tonnes per year to overseas clients through medium- and long-term agreements, with a total capacity to produce 8.3m tonnes per year.

The project is widely considered to be a technical success that has exceeded initial export expectations. It has also had a positive impact on employment and local supply chains. Around 86% of the 3200-strong production workforce is made up of PNG nationals, while 250 local businesses and 16 landowner groups provide ancillary services. However, there is some debate around whether the expected fiscal and social benefits have yet materialized.

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From a 2012 budget projection of receiving $22bn in revenue over the project’s lifespan to 2040, the government halved its forecast to $11bn in November 2018. In its assessment, it identified 11 favorable tax concessions granted to the joint-venture partners as one of the reasons for the downgrade. In a 2017 analysis, the World Bank noted that the joint-venture partners had negotiated “a complex web of exemptions and allowances that effectively mean that little revenue is received by the government and landowners”. In light of this, the current administration has insisted that future projects must offer more benefits for the state.

Papua LNG

Upon his election in May 2019, Prime Minister James Marape took over talks on two new large-scale energy projects, one of which involves the expansion of the PNG LNG plant through the development of the P’nyang gas field. The other project, which is known as Papua LNG and led by French multinational Total, involves the commercial development of the Elk and Antelope gas fields. The two proposed projects are connected, and combined would add three new LNG processing units – known as trains – to the existing two trains at PNG LNG. One of the new trains would be fed by the P’nyang expansion and the other two by Papua LNG. By sharing infrastructure at the PNG LNG plant, it is estimated that stakeholders could save $2bn-3bn in construction costs. Altogether the two projects would almost double the country’s LNG export capacity, with Papua LNG alone adding 5.5m tonnes per year to existing capacity at the PNG LNG plant.

In April 2019 a gas agreement for the $13bn Papua LNG project was struck by the previous administration led by then-Prime Minister Peter O’ Neill. Prime Minister Marape quickly signaled his intent to review the agreement and indicated that the government would seek to renegotiate if it felt that the fiscal and social returns for the state were insufficient. Subsequently, there were a number of closed-door discussions between the government and Total, which culminated in a September 2019 statement by the government that the project had been cleared to proceed after the French energy giant had made “substantial new concessions on potential future benefits not previously available to the country under the signed agreement”.

P’nyang Expansion

With Papua LNG cleared to proceed, the focus then turned to negotiations for the P’nyang expansion led by ExxonMobil. Since the projects will share infrastructure under the current plans, front-end engineering and design work on Papua LNG is not expected to progress until the status of the P’nyang expansion is made clear. However, the government publicly broke off talks in late January 2020, casting doubt over the future of both projects. In a statement to the Australian Stock Exchange after talks collapsed, Oil Search said the fiscal terms requested by the government meant that “the joint-venture partners were unable to obtain a return on their investment that made the project investable and bankable”.

According to international media, the government was seeking a revenue share in excess of the 45-50% it agreed for the Papua LNG project and well above the share negotiated in 2008 for PNG LNG. This stance is consistent with Prime Minister Marape’s pledge when he assumed office to “ensure that the oil and gas sector is beneficial to our country as well as our investors”.

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However, the government may face difficulties as it seeks to maximize the benefits from its natural resource wealth without deterring the international capital and expertise required to extract and commercialize it. In the absence of the P’nyang expansion, the two-train Papua LNG project would likely be delayed and costs would increase. The Bank of America estimated that first production would be delayed by 18 months, meaning that it would begin in 2026.

Nevertheless, there is some hope that the P’nyang project could still be revived. In late February 2020, Oil Search signaled that the joint-venture partners were willing to resume talks with the government, as they unanimously agreed that the synchronized three-train expansion was the most efficient way to develop Papua LNG and P’nyang. In its first quarter of 2020 report published in April, Oil Search confirmed that talks had formally resumed, although no public updates on the negotiations had been made as of June 2020.

Global Changes

However, these negotiations are taking place against the backdrop of significant disruption to the global energy market, as a result of the global outbreak of Covid-19 in 2020. Spot LNG prices in North Asia fell to record lows of below $2 per 1m British thermal units (btu) in April 2020 on the back of a supply glut and falling demand. Global LNG exporters are expecting low prices until at least 2022. As a result, energy companies must carefully evaluate the risks and rewards of any exploration and production activities to ensure adequate returns on investment.

The LNG industry has been in an extended phase of capacity expansion since 2016, mainly driven by new developments in Australia, the US and Russia. As such, analysts have warned that PNG risks falling behind its competitors if investment decisions are not reached soon on its two major projects. “Given the waves of new LNG that have recently been sanctioned, PNG’s expansion is slipping further to the back of the queue,” Angus Rodger, research director at global energy consultancy Wood Mackenzie, said. “From both a macro-pricing and a contractor-quality-and-pricing perspective, trailing in the wake of the biggest wave of new LNG supply the industry has ever seen is not ideal.”

According to consultancy firm Rystad Energy, the estimated $8.40 per 1m btu breakeven price for Papua LNG makes it one of the most expensive projects in the global pipeline compared with other developments in Qatar, Mozambique, the US and Canada. In light of this, it is hoped that stakeholders in the P’nyang expansion can reach an agreement to unlock the country’s potential.

By Oxford Business Group

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