From LNG Famine to Feast

It’s hard to believe how much the US natural gas production picture has changed since 2005. Instead of the inexorable decline forecast at the time, we have an epic boom that will soon make the US a major natural gas exporter.

In this week’s issue of The Energy Strategist I will be taking a close look at the companies planning to ship liquefied natural gas (LNG) overseas. Today I will provide some background on the events that brought the US from the point of building LNG import terminals just a few years ago to this month’s approval of the fourth LNG export permit.

Natural gas production had peaked in the early 1970s, and following a production resurgence that began in the mid-1980s and ran for 15 years, output was once more on the decline.



Predictions of a further catastrophic drop in supply weren’t uncommon, and oil companies began to pay premiums for natural gas producers in the belief that much higher natural gas prices were inevitable. And in fact, average annual natural gas prices hit new record highs in 2003, 2004 and 2005. It was clear that the US would need LNG import terminals to avoid the pending shortfalls in domestic natural gas production, and US gas imports were projected to surpass 8 billion cubic feet per day by 2010.

Cheniere Energy (NYSE: LNG) saw an opportunity and began to build LNG import terminals, signing up customers like Total and Chevron to 20-year option contracts to import LNG.

But the late Texas oil man (and fellow Texas A&M alum) George P. Mitchell was quietly working on something that would ultimately prove to be one of the most significant developments in the 150-year history of the modern oil industry.

The technique of hydraulic fracturing, or “fracking” had been around since the la! te 1940s and had been used extensively on oil and gas wells across traditional oil-producing regions like Texas and Oklahoma. Fracking involves pumping water, chemicals and sand down an oil or gas well under high pressure to break open channels in the reservoir rock. The sand is there to hold those channels open, allowing the oil (or natural gas) to flow to the well bore.

Likewise, horizontal drilling was invented decades ago and had been widely utilized in the industry since the 1980s. As its name implies, horizontal drilling involves drilling down to an oil or gas deposit and then turning the drill horizontal to the formation to access a greater fraction of the deposit.

George Mitchell’s company Mitchell Energy (now part of Devon Energy (NYSE: DVN)) successfully married these two techniques after years of trial and error, making it economical for the first time to produce oil and gas in many of the nation’s shale formations. His success is evident if we extend the previous graphic to 2012:

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Note that I had to change the scale, because the previous 1971 production peak was obliterated in 2011 as US gas production began to rise at rates that would have been unimaginable 10 years earlier. This shale gas revolution turned natural gas producers like Chesapeake Energy (NYSE: CHK) into household names, while Cheniere was pushed to the edge of bankruptcy as interest in LNG imports vanished. Cheniere’s share price fell from $40 to just over $1.

But Cheniere evolved with the changing marketplace, and decided to turn its LNG import facility into an LNG export terminal. And because the company had steel in the ground and had already traversed the permitting process, it had a significant lead on competitors. Investors came around to the view that Cheniere was on the right track with this change of strategy, and equity investments came pouring in. New contracts were signed with Total, Korea Gas, India’s GAIL, Spain’s Fenosa and Centrica in the UK. Cheniere was a first mover, and in 2012 became the first company to obtain approval from the Federal Energy Regulatory Commission (FERC) to export LNG to to countries that lack a Free Trade Agreement (FTA) with the US.

But other companies are rushing to catch up. This month Dominion Resources (NYSE: D) became the fourth company to win approval from the Department of Energy for a non-FTA license to export LNG from its Dominion Cove Point LNG facility on Maryland’s Chesapeake Bay. (Dominion still requires approval from FERC.)

This latest approval is still merely the tip of the iceberg. In this week’s Energy Strategist, I will explain the LNG permit approval process, discuss the economics of LNG, investigate whether the US natural gas supply situation may be overstated and detail the companies that have gotten approval or are in the process of getting approval to export LNG.

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