Canada losing the race to sell LNG

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Canada's bid to export natural gas to Pacific markets should be a slam dunk. British Columbia has giant reserves of gas located relatively near tidewater, and Asia is begging for more of it.

But the first project in line to export that gas from Canada has faced trouble inking the profitable deals needed to sell its product to foreign buyers, casting a shadow over the tens of billions of dollars in investments proposed for the West Coast.

The problem comes down to price: Canadian gas producers want to sell using contracts linked to oil prices, which are far higher than gas prices in a North American market currently suffering a supply glut. That was the basis for developing Kitimat LNG, a new project supported by Apache Corp., Encana Corp. and EOG Resources that received the first liquefied natural gas export licence ever issued by the National Energy Board.

It was first out of the gate, and began spending hundreds of millions to clear and prepare a site near Kitimat, B.C., for its new terminal.

Then it ran into a roadblock, one that may send tremors through the broad range of plans for LNG export plans. Cheniere Energy Inc. signed a contract to sell gas from its Sabine Pass terminal not at oil-linked prices, but according to North American gas prices set at Henry Hub. Those prices have been so low in recent years that many of the continent's gas wells are struggling to break even, and gas drilling has witnessed a huge decline.

That has created an expectation in Asian markets that North American gas can be bought on the cheap – and erected an important obstacle for Canadian gas exports. Kitimat LNG, for example, initially expected to make a final investment decision in late 2011 or early 2012. Now, it's still trying to sort out contracts.

"We could have sold this thing out a year ago. But we're not prepared to sell it out for dollars that don't make sense. We won't do it," said David Calvert, vice-president of Kitimat LNG.

The Cheniere deal "created quite a ripple through the marketplace," he said. Asian markets continue to covet Canadian gas – a fact made clear by the billions in foreign investments that have poured into northeastern B.C.'s gas fields. But, Mr. Calvert said at an energy roundtable held at Calgary's Petroleum Club Tuesday, "this pricing thing, and the expectation around that after Cheniere did a deal at Henry Hub, has created some – I'll call it unrealistic – expectations."

He noted that Kitimat LNG is a new, or greenfield project, which means it has higher construction costs than Sabine Pass, which is a conversion of an existing project.

Meanwhile, Kitimat LNG itself continues to move forward. Just last month, it began clearing the way for the 480-kilometre pipeline that will bring gas to the coast. It's also still doing engineering work.

Still, contracts aren't the only potential problem. The cost of building an LNG plant is also a risk, Mr. Calvert said. In Australia, LNG construction prices have tripled in six years, he noted, and the construction costs in Canada are roughly comparable to those in Australia.

In other words, Canadian gas exports are anything but a slam dunk, especially with Australia's substantial lead to market. It is a global race to sell LNG, said PricewaterhouseCoopers national energy leader Reynold Tetzlaff, and Australia has an important lead.

"Canada is going to have to work its way into the market," he said. "If you can't get the long-term contracts, it's hard to make these projects economic."