SINGAPORE (Sept 10): In our article titled “<a href="https://www.theedgesingapore.com/print-edition/gas-production-being-transformed-disruptive-technology-led-petronas-gas-and-shell" target="_blank">Gas production is being transformed by disruptive technology led by Petronas Gas and Shell</a>” (Issue 846, Sept 3), we looked at the liquefied natural gas industry. LNG is a bridging energy source between non-renewables and renewables; the prospects over the long term could be of concern, as it is only an interim energy source. The switchover to clean, renewable energy is a looming risk for the LNG and fossil fuel energy industry as a whole. Furthermore, the returns on investment on an exhaustible resource and erratic price movements of crude oil prices (since LNG prices are mostly pegged to oil) are general risks that investors have to be cognisant of.

Still, global gas demand is projected to rise, particularly for LNG, into the 2030s, driven by demand growth from China. The increased usage of floating liquefied natural gas technology is expected to liberalise the market by establishing a global gas price, which is currently pegged to oil prices. The shift from lengthy and costly subsea pipelines to floating liquefaction and regasification terminals will lessen the costs and time to construct infrastructure while allowing for smaller and remote fields to be explored with floating LNG technology.

The most important players in the LNG sector are Gazprom PJSC, Golar LNG, Cheniere Energy, Petronas Gas and, eventually, Singapore companies such as Sembcorp Marine.

The quantitative aspect of the LNG industry analysis will and should primarily focus on the margin of safety of individual companies. Although projecting future earnings is essential, this industry is different, as it is more important to protect capital because of the potentially overbearing risk of becoming an obsolete industry. In addition, the weighted value and price growth of individual companies should be compared. Yields are also analysed, and benchmarked against the risk-free rate of 10-year government bonds and notes of the country in which they are listed. A simple discounted cash flow (DCF) model is used to check whether the stock is potentially undervalued or overvalued based on its current trading price; with the discounting rate mainly based on the risk of oil price fluctuations (as most LNG prices are pegged to oil). The qualitative aspect of the analysis will focus on the prospects and individual risks of these LNG companies.

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Golar LNG attempts turnaround with African projects

Nasdaq-listed Golar LNG owns and operates LNG-based infrastructure, which includes LNG carriers and vessels, floating storage and regasification units (FSRUs) and floating liquefaction units (FLNGs). These processes are in the mid-stream of the LNG value chain. Golar LNG’s clients include Royal Dutch Shell, Eni, Petrobras and Pertamina. It supplies vessels that provide liquefaction, storage, transport and regasification services.

Despite challenging financials, the company has many proprietary technologies. It premiered the conversion of vessels into FSRUs and FLNG vessels in 2008 and 2017 respectively. FLNG vessels liquefy natural gas to LNG. Golar LNG’s proprietary technology enables stranded gas fields to be monetised. Stranded gas is estimated to make up 40% of total natural gas available in offshore fields. In addition, it has opened new and smaller markets for excess LNG production or to meet urgent demand for gas-powered energy. All these innovations eliminate the need to have large offshore gas fields with lengthy and costly subsea pipelines.

None of its competitors are able to cross Golar LNG’s deep moat. The company continues to focus on FSRU and FLNG projects, an area in which it has a competitive advantage. Golar LNG’s fundamentals should strengthen, fuelled by a projected rise in LNG shipping and vessel utilisation rates. Its first FLNG vessel, the Hilli Episeyo, was converted in Keppel Corp’s yard and is expected to be operational until 2025.

Golar LNG’s prospects were negatively affected when a joint venture with Schlumberger was dissolved, owing to financing issues, as Golar LNG was unable to get bank loans for the project. The company still has many more projects in the pipeline. Its upcoming Tortue FLNG in offshore Mauritania and Senegal as well as Sergipe power project in Brazil are expected to contribute to positive cash flow for the company. Furthermore, demand for FSRUs are on the rise, with FSRU contract lengths usually averaging 20 years, which improves the prospects and the moat of Golar LNG.

Golar LNG’s successful FLNG venture, the Hilli Episeyo, mainly targets stranded gas fields. Positive earnings before interest, taxes, depreciation and amortisation (Ebitda) and a doubling of revenue for 2018 is expected for Golar LNG, owing mostly to this venture. With the backdrop of growing LNG demand, coupled with Golar’s innovative pioneering technology, which caters to more versatile and smaller markets and a potentially huge gas market, Golar LNG’s deteriorating financial performance over the years can be expected to turn around.

Petronas Gas hits all the right spots

Bursa-listed Petronas Gas, which is 60.63%-owned by Petronas, is an integrated player on the LNG value chain. Its core business involves mainly gas processing and utilities, gas transmission and regasification. Its principal activities are mainly separating natural gas into components from offshore gas fields, which is then used for storage, transportation and distribution.

Petronas Gas has enjoyed slow but stable growth over the past few years. The upcoming few quarters will be a test to the company’s consistent performance, however, driven mainly by political concerns.

On the flip side, the implementation of Malaysia’s Gas Supply Bill earlier this year allows for third-party and external companies to supply and sell natural gas through the LNG regasification terminals and transmission pipelines, which are controlled by Petronas Gas. This significantly improves its prospects, as other companies will have to pay it for the use of this infrastructure. The improved utilisation rate of these pipelines and terminals, coupled with increasing domestic gas prices, should result in an improvement in Petronas Gas’ margins and cash flow.

The company’s low debt levels allow it expand and venture into new technology without having to worry about financing. PFLNG Satu was the world’s first floating liquefied natural gas facility, completed in late 2016. PFLNG Dua, a much larger vessel, is currently under commission and expected to be in operation by 2020. Both vessels allow for the extraction of natural gas from stranded gas fields and will contribute significantly to Petronas Gas’ revenue and earnings once they are fully operational.

The risks concerning the earnings of Petronas Gas are mainly due to a new pricing scheme to come into effect in 2019, which involves potential cuts in processing tariffs for gas transmission. Furthermore, the maintenance cost for Petronas Gas’ Pengerang LNG terminal is expected to kick in in 2HFY2018. The greatest risk faced by Petronas Gas is a resolution in favour of Petroleum Sarawak in its current dispute with the Sarawak state government. Ultimately, Petronas is a fundamentally strong company with a relatively deep moat, but only when the political dispute is settled.

Cheniere Energy clinches 25-year China contract

New York Stock Exchange-listed Cheniere Energy is a full-service LNG provider that owns and operates LNG pipelines and receiving terminals. It is primarily involved in the liquefaction and transportation section of the LNG value chain. It is also involved in the LNG and natural gas marketing business.

Cheniere Energy is the largest natural gas buyer in the US; the gas is then liquefied and sold. As such, it is one of the largest LNG producers in the US. The company’s main liquefaction terminal and train, the Sabine Pass and Corpus Christi, are based on long-term contracts, which provide earnings visibility. Cheniere Energy’s ongoing LNG train project is expected to be completed ahead of time, which will leave additional volume for sales and boost credibility. Also, rising LNG spot prices are expected to contribute to Cheniere Energy’s operating margins, since it is heavily reliant on the global spot market for its exports.

The recent move by the company to sign a long-term contract with China National Petroleum Corp could be worth US$11 billion ($15.1 billion) (versus Cheniere energy’s market cap of US$16.7 billion). The contract allows it to export LNG to CNPC for the next 25 years. China is the world’s fastest-growing LNG market in terms of demand. Cheniere Energy is looking to clinch contracts from more Chinese buyers.

Its significant investments in greenfield and brownfield liquefaction projects are expected to reap positive returns, as the US is poised to become the third-largest global LNG supplier, behind Qatar and Australia. As one of the largest LNG exporters in the US, Cheniere Energy is expected to enlarge its market share, given its focus on Asia.

The company’s Achilles heel is its high capital-expenditure requirements and challenging capital structure. On the other hand, revenue has grown 25 times in five years and operating cash flow turned positive in FY2017 after 10 years. Free cash flow remains negative. Still, for Cheniere Energy, the long-term outlook appears promising, driven by Chinese demand and contingent upon the company’s securing of long-term contracts. This needs to be juxtaposed against market-changing technology such as FLNG, which could flop Cheniere Energy’s heavy capital investment spending.

Gazprom’s pipeline secure with long-term contracts

The Russian government’s 50%-owned company, Gazprom, is present in the entire LNG value chain — from exploration, production and storage to processing and sale of gas and LNG. Gazprom is currently the largest supplier of natural gas to Europe and also involved in heat and electricity generation.

The company’s long-term strategy is based on preserving its market share in Europe primarily against Qatari and US LNG exporters and local producers such as Novatek and Rosneft.

As the company’s financials are in ruble, a weakening currency is positive for revenue and earnings, given that its biggest export market is Europe. This must be weighed against its foreign debt, however, as the company’s accounting policy is to revalue borrowings denominated in foreign currencies regularly.

Gazprom’s intensive capital investment programme will have a negative impact on free cash flow in the near term. Construction of new pipelines such as Nord Stream and Turkstream and the commissioning of oil and gas fields will cause Gazprom’s free cash flow to remain negative until 2020. Beyond that, when its projects, which are undergoing commissioning, start operations, its free cash flow is expected to recover, with the prospect of increasing dividend payouts as announced by management.

Gazprom’s venture into China, which is forecast to have tremendous future demand growth for LNG, is already part of its strategy to improve its global market share. Its Power of Siberia pipeline is expected to start delivering gas to China in 2019, with plans to build another pipeline, Power of Siberia 2, to export LNG to Western China by 2025.

The Russian government’s major stake in the company explains its relatively attractive valuations. Despite US and European Union sanctions, which include financial and technological ones, Gazprom expects only 1% of its output to be affected. Furthermore, these sanctions do not affect its access to global capital markets. Higher taxation on the local oil and gas industry will, however, have an impact on Gazprom’s earnings in the future.

Overall, the company is poised to have strong cash flow in the next few years, thanks to its high spending on capex. The venture into China could prove highly profitable to Gazprom as the European region moves towards other alternative energy sources such as hydro and nuclear energy. Gazprom is a safe bet in the LNG industry and its historical financial performance affirms this sentiment. The company is listed on the Moscow Interbank Currency Exchange.

After Brazilian fiasco, SembMarine sees future in LNG

Sembcorp Marine has had a difficult four years. Revenue and earnings peaked in FY2014, at $5.83 billion and $560.1 million respectively. It announced a loss of $377.6 million in FY2015, owing largely to the impairment of its Sete Brasil contract. Although SembMarine recorded turnover of $2.81 billion for 1HFY2018, it made a net loss of $50 million. Most of this was due to a loss of $27 million on the sale of West Rigel (a semi-submersible rig), which was sold for $500 million. In addition, new orders secured last year are at an early execution stage and cannot be booked as revenue and profit. Gearing continues to rise, reversing from a net cash position in 2014, to 1.26 times as at June 30.

Once the world’s second-largest rig builder, SembMarine is now looking for new avenues of growth and has identified the LNG sector as a possible new business segment. In 2015, it acquired a small stake in Gravifloat, which owns patented technology and design in LNG infrastructure, including export and liquefaction terminals, and storage and power generation facilities. Gravifloat’s modular design is unique because it can be configured for site-specific requirements and handle other products such as LPG, crude oil and diesel. Apart from that, the company has a Lego-like ability to redeploy and modularise LNG terminals, giving it a competitive edge.

As at Dec 31, 2017, SembMarine owned 56% of Gravifloat. According SembMarine’s 2017 annual report, Gravifloat made a net loss of $10.1 million in FY2017. In FY2016, SembMarine acquired LMG Marin, which owns design patents for LNG carriers and LNG-powered ships. These acquisitions, coupled with its own technology at its new Tuas yard, enable SembMarine to be a player in the LNG value chain. It provides turnkey solutions for gas terminals, FLNGs and FSRUs; repairs and upgrades LNG gas carriers; and designs and builds offshore LNG platforms and specialised LNG vessels.

In 1HFY2018, SembMarine repaired an LNG carrier, and one of its platform repair jobs was the BP Tangguh LNG platform. The company’s turnover is divided into four main segments: rigs and floaters; repairs and upgrades; offshore platforms; and other activities (such as chartering).

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On Sept 5, SembMarine announced it had completed the acquisition of Sevan Marine’s intellectual property rights, including a 95% interest in HiLoad LNG for $39 million. Analysts forecast a net loss of $98 million this year, but expect the company to return to profit next year.

Excluding the Sete drillship contracts, Semb­corp Marine’s net order book stands at $4.15 billion. Revenue and earnings are likely to continue from traditional sources for the next 18 months.

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