Other than pipeline capacity payments, the topic of upstream contract terms has not received any investor, media or conference attention. However, some LNG terminal capacity holders have decided to integrate back to the wellhead. Of course, when the deals were done everybody expected U.S. LNG to always be in-the-money, said Kjell Eikland, founder, Eikland Energy and Energy Perspectives.

As for producer risks it is pretty simple. Most of the upstream contracts signed are linked to month ahead Henry Hub (HH) and producers basically take no price risk. Their upside is probably that they have been able to obtain increased offtake certainty and diversification as well, which is pretty bankable. So, all in all a pretty decent deal for U.S. producers regardless of the HH level, he explained.

The big issue for the U.S. Department of Energy has been to see whether if gas/LNG exports actually push prices up, thereby hurting U.S. consumers. At least three official reports have concluded that the effect is small. However, those reports have not really accounted for the near- and medium-term effect of the drilling collapse. In Energy Perspectives’ view, that is a growing uncertainty.

The reference price formula for the majority of U.S. LNG projects is 1.15*HH+LiqFee (liquefaction fee), where LiqFee is between $2.25 and $3, depending on the specific contract. Those are full-cost, 100% ACQ (annual contract quantity) contract values.

Cheniere’s risks

While initial contracts give little downside risk for Cheniere, they later probably got a little cocky and have quite a bit more risk ahead (e.g. Sabine Pass trains 2, 4 and 5). Energy Perspectives also argues that Cheniere’s sales system appears insufficient to handle the associated marketing challenge profitably, which the trades and realized prices of the commissioning period also suggest, Eikland said.

Cheniere had a unique price cover for commissioning LNG under the BG sales and purchase agreement for Train 1, which—just barely—protected them from outright loss. Cheniere’s vessel charter dayrates are around $84,000, more than twice the current level, which suggests that they had to price cargoes to India and Kuwait for the trade purely marginally, he explained.

In this market, all Sabine Pass capacity holders effectively must see capacity payments and key parts of vessel charters as sunk cost. The difference between U.K. National (notional) Balancing Point (NBP) ($4.60) and 1.15*HH ($3.55) less European system entry fee, regasification, port, insurance and shipping cost right now does not even leave a fixed-cost contribution margin. In part, low margins are due to competitors, such as Qatar and pipeline gas. While Shell/BGG and GasNatural can handle such losses, financially much weaker Cheniere will hurt. The current Sabine Pass shutdown “for maintenance” is likely also commercially the ideal option right now, he said.

Data from the U.S. Energy Information Administration monthly LNG report (Table 1) shows some early free-on-board (FOB) cargo values are very low. As mentioned above, however, terms for commissioning volumes often reflect difficult/off-spec LNG quality or put-option discounts. It appears that Cheniere was able to collect Shell/BGG fixed-cost contribution for these trades, Eikland noted.

An altogether different issue is surprisingly regular Shell/BG Group shipments after Train 1 commissioning. It is tempting to suspect that there could be fairly rigid early planning (annual program) or upstream gas contract terms with take-or-pay or otherwise forced flow that are not public, in which case Shell/BGG carry the burden, he continued.

For the full picture it is necessary to look at Shell/BGG LNG portfolio allocations and shipping, which in their case is sophisticated. Eikland Energy developed a system to help analyze these things. There are examples of vessels offloading Nigeria or Trinidad and Tobago volumes at Altamira, Mexico, and then continuing to load at Sabine Pass for delivery to Europe or the Middle East, for example. For years companies have been trying to set up back-haul routes to make shipping more profitable.

The restart of Sabine Pass will therefore be interesting, not the least because GasNatural’s start of commercial deliveries is not likely until the third quarter of 2017. Cheniere will be able to market these volumes if GasNatural opts out, but without capacity fee contribution from GasNatural. Margins have to improve significantly for Cheniere’s TTF-indexed short-term contract with EDF to give any respite. For this coming winter it may even be that U.S. prices strengthen more than European prices, according to Energy Perspectives.