LNG Development: Liquefied Courage
Investors in Canada’s fledgling LNG industry have pulled out due to a host of economic and regulatory issues. With competition heating up, project proponents say it’s time for a rethink.
RAPID TECHNOLOGICAL ADVANCEMENTS in natural gas extraction from shale deposits have given the United States a new level of energy independence. So, for Canadian companies in the exclusive business of selling hydrocarbons south of the border, the writing has been on the wall for some time — either find a new buyer or find a new line of work.
To that end, a seemingly straightforward plan had been, until recently, coming along. With the right approvals, Canadian producers could extract natural gas from shale formations in Alberta and British Columbia, pipe it to liquefaction facilities on the BC coast, and then ship it straight across the Pacific to Asia, where demand is soaring, driven largely by emerging economies needing more fuel and those converting from coal to cleaner fuels.
Qatar, Malaysia and Australia have jumped all over the burgeoning industry to become the leading liquefied natural gas (LNG) exporters. The global market for liquefied natural gas is “perhaps the fastest growing major energy market in the world,” according to Forbes. Canada is awash in it. We have far more than we need, and supply has only grown as this country exploits the same technologies that have allowed the US — historically Canada’s largest importer — to entertain thoughts of exporting.
In 2013, Canada had almost 20 projects both large and small in varying stages of development, and British Columbia was predicting it would have five export facilities running by 2020, making it a major-league exporter. Yet today Canada doesn’t have a single major LNG export facility — and none under construction. Only one small project, the $1.6-billion Woodfibre LNG plant near Squamish, BC, appears even close to a final investment decision to proceed. What’s happening instead is that Canada’s natural gas is being diverted to US export facilities on the Gulf Coast, sold at a discount to make up for the distance it has to travel.
So why are Canadian producers out in the cold? Many of the lawyers interviewed for this article attribute, to a greater or lesser degree, a regulatory process plagued by uncertainty and delay, but that’s only part of the reason for the failure. Everyone points to economic forces as the single strongest factor. A global surplus sent natural gas prices into a nosedive in 2014.
“Most of these LNG projects were conceived of at a time the LNG price was about US$15 or US$16,” says Alicia Quesnel, a partner at Burnet, Duckworth & Palmer LLP in Calgary, with a practise area focusing on energy. “It’s now [in September] down to US$5 or US$6, so there’s been a significant drop.” Energy analysts say Canadian projects need gas prices over US$10 to be economically viable, so planned projects have been underwater for some time.
That has led some project developers to make difficult decisions. In March, Royal Dutch Shell PLC scrapped plans to develop the Prince Rupert LNG project in BC, although it is sitting tight on the planned $40-billion LNG Canada plant, which has all the needed approvals and is waiting for the market to turn around before making a final investment decision.
In July, a project led by Malaysian state-owned Petroliam Nasional Berhad (Petronas) announced it was killing plans for its $11.4-billion Pacific NorthWest LNG megaproject near Prince Rupert. The poster child for Canada’s LNG hopes, Petronas would have a seen a new 900-kilometre pipeline built to connect gas fields in Alberta and BC to a new coastal liquefaction and storage export facility.
In New Brunswick, Madrid-based Repsol and Irving Oil initially proposed converting an old Canaport liquefined natural gas import facility into a facility that can handle exports. They received an export licence from the National Energy Board (NEB) but have put the project on hold. In Québec, Stolt LNGaz has also received regulatory approval, but it too has decided not to move forward.
The dominant feeling in the energy community is that the window of opportunity Canada had has been shut, says Quesnel, and “what we need to do is prepare for the next window.”
Analysts forecast that will come between 2021 and 2025, when demand and supply for LNG are expected to balance out, sending prices back up.
But even after all the permits and approvals are obtained, the construction phase can take from three to five years, so “if Canada wants to be prepared for the next wave, those decisions are going to have to be made between 2018 and 2020.”
In other words, if Canada hopes to become an LNG exporter of any size, some bold commitments may have to be obtained before they are warranted by a rebound in price.
Canada’s biggest competitor in the race to join the LNG big leagues is the United States, and it is much closer, with seven projects approved and under construction, and four more approved but not yet started. In fact, according to a report by Reuters, the country is expected to become the world’s third-largest exporter of liquefied natural gas as early as 2018.
Proposed export facilities in the United States have one massive advantage over Canada, says Martin Ignasiak, co-chair of the regulatory, environmental, Aboriginal and land group at Osler, Hoskin & Harcourt LLP in Vancouver: the infrastructure is already there.
Until the shale revolution, the US was a net importer of natural gas, mainly from Canada. It designated industrial land mainly around the Gulf of Mexico, built import terminals and invested heavily in pipeline infrastructure. Many of those facilities are now being converted for export. Canada never had to import natural gas. That means most of the long-haul pipelines to the Pacific coast and major LNG storage facilities will have to be built from scratch, making it much more expensive.
Canada’s regulatory regime is also a stumbling block, according to Ignasiak, who says he knows of projects it has killed. “And it’s not because Canadian regulation is too strict. When I talk to clients looking at projects in Canada, that is not their concern. They know in return for those regulatory standards they have a degree of political stability and benefit from a very stable regime.”
So what is the problem? He says it’s the complete lack of certainty around timelines associated with the various regulations. “They want to know that, if they comply with all the standards, having made that investment, they’re going to receive the approvals to proceed with a project.”
The length of time it takes to get a project from a proposal into operation has a significant impact on its profitability.
“If you invest a billion dollars prior to construction, it makes a big difference to your net present value if you get to start construction in four years as opposed to eight.” The longer it takes, he says, the more difficult it becomes to recover that initial investment.
Delay and uncertainty: two words project investors hate.
PETRONAS AND ITS PARTNERS may have left, but there are companies that continue to explore Canada — BC in particular — as a hub for liquefied natural gas export facilities. They include ExxonMobil and Imperial Oil Resources Ltd., which are evaluating the potential for the WCC LNG project located just northeast of Prince Rupert.
The partners are exploring regulatory approvals, investment climate and business considerations, although the project is still in the early stages and a final investment decision is not expected anytime soon. Nexen Energy, a division of Chinese energy giant China National Offshore Oil Corp. (CNOOC), and Japan’s INPEX Corp. are also still looking at Aurora LNG, a $20-billion LNG export facility proposed near Prince Rupert. It has been going through multiple environmental studies.
Don Greenfield, an energy partner at Bennett Jones LLP in Calgary, says Canada has some real advantages over gas stored and shipped from the Gulf of Mexico. For one, the operational costs of producing LNG in a cold climate should be lower than they are in a hot climate, because LNG is produced by refrigerating it. Another advantage for the energy-hungry Asian market is that British Columbia is closer, providing a shipping cost advantage. “The Gulf Coast exporters have to go through the Panama Canal, so they have to go south a ways and then back north, whereas from BC you’re basically going straight across the Pacific Ocean.” That said, Australia and other Asia-Pacific LNG supply regions, such as Malaysia and Indonesia, are closer to the prime Asian markets, and have significant shipping time and cost advantages over Canadian projects.
The market “can pass you by,” warns Greenfield, adding that’s what seems to be have happened in Canada over the past couple of years. He says he’s acted for project developers who have looked at Canada, then decided to build elsewhere, although he can’t say for sure whether it’s because of regulatory factors, or for economic reasons such as the high cost of building brand new infrastructure.
ALTHOUGH THE BIGGEST factors discouraging investment relate to economics and regulation, “social opposition compared to other jurisdictions is also a factor,” says Rick Williams, a regulatory and project approval litigator at Borden Ladner Gervais LLP in Vancouver.
If you want to talk about impediments to Canada’s prospects as an LNG player, he says, social licence has to be on the table. Because the US is converting existing LNG facilities from import to export, the proposed land is already zoned for industrial use. As a result, social opposition — from demonstrations and civil disobedience all the way up to court challenges — “tends to be somewhat less.”
In Canada, however, opposition to project development comes right at the start, “particularly on the West Coast, and particularly with greenfield projects, it has really become the dominant discourse. We see it on a number of current projects, but any large-scale industrial development is faced with at least the threat of civil unrest or legal challenges.”
That can slow things down dramatically. Take environmental approvals. In theory, federal environmental approval must be decided within 36 months, says Burnet Duckworth’s Quesnel. But in practice, the clock can be stopped several times in those 36 months, and for several months at a time, to allow a project developer to address comments on environmental impact.
And the comment letters come not only from stakeholders directly impacted by the project but from “people from around the world whose comments also need to be addressed,” she says. “On Petronas, for example, I heard there were something like 34,000 comments on the government’s draft environmental-assessment report.”
Social opposition can be heavily funded by international environmental groups, says Rachel Hutton, a partner at Stikeman Elliott LLP in Vancouver, who acted for the Lax Kw’alaams First Nation in support of the Petronas project.
International environmental activists can play a large role in the regulatory process “in terms of launching opposition. They come equipped, lawyered-up and ready to go, and really take up a very large bandwidth of time, expense and legal focus at the regulatory level,” says Hutton, who says she’s seen it from the smallest town to those the size of Petronas. “But what gives rise to opposition, where the money and resources behind it come from, may not be visible.”
NEW PIPELINES ARE KEY to getting Canada’s shale gas from Alberta and northeastern BC to Pacific coast terminals. British Columbia’s First Nations communities are definitely in a position to stall, if not stop, them from being built across their lands if they choose, especially since the Supreme Court of Canada’s decision in Tsilhqot’in Nation v. British Columbia, 2014 SCC 44, which determined that a small nomadic band held title over its traditional lands.
But Albert Hudec, a senior partner at Farris, Vaughan, Wills & Murphy LLP in Vancouver, says few of them want to. He says most BC bands are keen to participate in LNG development, pointing to the First Nations LNG Alliance, a coalition whose mandate is to increase positive LNG dialogue in First Nations communities. “It shows there’s a significant level of support for LNG and the associated pipelines. They understand there is a big difference between gas and oil.” If a pipeline carrying gas leaks, he says, it explodes and causes a fire. If an oil pipeline leaks, it leaches bitumen into the ground, contaminating the soil. “First Nations know the difference.”
Hudec has acted for First Nations bands on several LNG deals and says most appreciate the financial benefits, jobs and contracts that can come from these projects. “A majority of First Nations are disposed to talk about LNG and natural gas development as long as it can be done in an environmentally responsible way and as long as they can get what they perceive as a fair share of the benefits.”
But for all the goodwill, Hudec acknowledges that a number of different things conspire against developers when they consult with First Nations. The most problematic, he says, is the territorial overlap, which makes it difficult for a developer to know which band they should be consulting with.
“You’re probably dealing with multiple bands, so getting a deal in those circumstances can present challenges.” He points to Prince Rupert Harbour, at one point the location for several planned LNG facilities. “There are three, maybe five bands that assert conflicting territorial claims over the harbour, and between 16 and 24 bands along each of the associated lateral pipelines.”
Achieving unanimous Aboriginal consent on a pipeline was only ever done once, he says, on the Pacific Trail Pipeline associated with the Kitimat LNG project co-owned by Chevron Corp. Hudec acted for the bands in that deal, helping them get together to form the First Nations Limited Partnership to support the project.
SIDEBAR: Prospects for LNG
A report form the NEB nicely summarizes Canada's LNG problem
ONE OF THE BIG CHALLENGES in the regulatory permitting world, says Quesnel, is that the federal government and whatever province happens to be involved “don’t always have the same priorities or the same objective.” Governments change, she points out, and so do policies.
“The Paris agreement for example is fairly recent, so our commitment and our focus on carbon emissions is a lot higher than when most of these LNG projects first started their development.”
Osler’s Igasiak says he’s concerned the LNG permitting process is turning it into a lightning rod for debating the much larger issues — “whether it’s climate change or Indigenous rights or land use” — instead of focusing on the project.
“I don’t think it’s the time to give up on the possibility that we will become a major exporter through LNG facilities of natural gas,” he says.
“But what it is time to do is have a serious discussion and put in place regulatory mechanisms that will allow for the timely development of these infrastructure projects the next time market conditions say they should go ahead and we have people prepared to invest significant amounts of money in the Canadian industry.”
Don Greenfield of Bennett Jones says that there is no way to attract that kind of money without having committed buyers for the natural gas far in advance. “In order to borrow money, the banks will want to see long-term purchase contracts from creditworthy buyers. You have to have one or more 20-year contracts to [buy] your product at an ascertainable price that you can take to the bank.
“So you need purchasers, and you need regulatory approvals, which are largely around environmental issues and First Nations consultations. The projects need to get the pipeline and new infrastructure, which also needs regulatory approvals, and we’re talking billions of dollars there, too.”
In terms of dreams, it sounds a bit like climbing Mount Everest. Is Greenfield optimistic Canada will make it to the summit of major LNG exporters five or 10 years from now?
“I don’t think I’m optimistic,” he says, after a pause. “I wouldn’t be prepared to say it won’t happen, but it certainly doesn’t look as rosy as it did four or five years ago.”
Sandra Rubin is a Toronto-based writer and strategic consultant.