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January 5, 2014

LNG Burden for BC Budget

If estimates for the Montney Formation are correct, BC and Alberta hold roughly one quarter of the world's marketable natural gas reserves. Can it reach markets at prices that will pay for capital intensive liquefied natural gas (LNG)?

If you listened to Premier Clark you might get the impression that LNG is the government's idea. The government and its agencies are some of the players but the story starts with private companies that may make final investment decisions (FIDs) to invest billions in LNG plants (called "LNG trains"), pipelines to get natural gas to the plants and drill wells to extract (and frack) the gas.

In an interesting analysis of LNG pricing, John Kemp concluded in a September 2013 Reuters article that: "Construction costs for LNG export facilities are so high no project will go ahead unless substantially all the potential output has already been pre-sold." Given the tight margins identified by Kemp, it is hard to believe that LNG will yield a bonanza sufficient to pay off BC's debt; it will be hard enough to make the economics work to cover the pipeline construction necessary to service the LNG trains.

Chevron's worldwide revenue is more than six times greater than the BC government's; many of the potential LNG developers have revenues comparable to those of some governments. When powerful corporations negotiate tax and investments with governments desperate for dollars, the playing field is not level. Documents released under freedom of information (response package, pages 46 and 115) reveal that BC's pre-election LNG revenue claims were based on the "maximum direct Government Take if the 5 LNG plants were developed in BC and Australian tax law and rules were applied". Post-election Minister Coleman denied BC's taxes will be that high as he talked about the "sweet spot" that will make deals work. He won't say if his tax spot will be sweet for his government's bottom line after concessions are made to secure FIDs.

It would be interesting to look worldwide at all pending final investment decisions for LNG projects in order to see how BC projects compare and which of BC's proponents are also considering projects in other jurisdictions. That review is beyond the scope of this article, but the 2013 World LNG Report of the International Gas Union provides some of that information.

The numbers keep changing on how many potential LNG projects are contemplated for BC. In November the Globe and Mail listed 14 proposals but the government's website lists five potential LNG projects, probably those most likely to proceed. One of those is Kitimat LNG, a joint venture of Apache Canada and Chevron Canada.

Inconsistencies between the annual reports for the two parent corporations and the project's website might be indicative of the kind of uncertainties that could affect the timing of a final investment decision. Apache's 2012 annual report stated: "Kitimat LNG is intended as a means for Apache to monetize an estimated 50 Tcf natural gas resource at prices linked to crude oil. The new joint venture plays to each partner;s strengths, with Apache operating the upstream assets and Chevron overseeing the LNG marketing, plant and pipeline." That is two and half times more gas than referenced on the project's website where a summary of points on the project says: "Approximately 19 trillion cubic feet (Tcf) of combined marketable / technically recoverable natural gas resources." There appears to be an inconsistency between the 19 Tcf in the project website and 50 Tcf in the annual report of one of the parent corporations. A supplement to Chevron's 2012 annual report is not specific about gas reserves for Kitimat but it is more optimistic on the size of the plant: "In February 2013, Chevron acquired a 50 percent owned and operated interest in the Kitimat LNG project and proposed Pacific Trail Pipeline, and a 50 percent non-operated working interest in 644,000 total acres (2,606 sq km) in the Horn River and Liard shale gas basins in British Columbia. The Kitimat project is planned to include a two-train, 10.0 million-metric-ton-per-year LNG facility, and at the time of acquisition, FEED activities were in progress." However, the project's website says that initial export capacity will be 5 million-metric-ton-per-year (mmtpa) and front-end engineering and design (FEED) "will explore the feasibility and timing of constructing a second LNG train". It notes that the National Energy Board has granted an export license for 10 mmtpa.

Another source of uncertainty is what environmental regulations will be applied. Ideally the government would balance its desire for revenue with its responsibility to reduce greenhouse gas emission and protect groundwater. For example, it could require sequestration of carbon dioxide but that would increase production costs and is unlikely to happen. Premier Clark appears to think her legislative pen is a magic wand, with a single stroke she can make LNG "clean".

A debate has erupted between some environmentalists and the petroleum industry on whether fracking pollutes groundwater. Anthony Ingraffea of Cornell University is perhaps the most often cited critic of fracking. His January 2, 2013, interview in EcoNews provides links to his work and summarizes his arguments. In addition to releasing greenhouse gases, Ingraffea points to the danger of fracking fluids polluting surface water when they flow back to the surface and to methane and various chemicals polluting groundwater either from leaks in well casings or by transmission through disrupted shale formations.

A series of three articles in the Energy in Depth website, initiated by the Independent Petroleum Association of America, are titled "How Anti-Fracking Activists Deny Science: " It is useful to read all sides in the debate, after which most people probably go away confused and decide based on a gut reaction. The industry argument reduces to "show me the evidence that harm has been done". Much of the environmental argument relies on the precautionary principle, i.e. don't play Russian roulette.

Test wells drilled to groundwater outside Pavillion, Wyoming changed the debate. In the spring of 2012, test wells drilled by the US Geological Survey with samples analyzed by the US Environmental Protection Agency (EPA) found groundwater contamination. An October 4, 2012 article in Nature (International Journal of Science) summarized the debate and noted: "In Pavillion, the gas wells are as shallow as 372 metres, while wells tapping groundwater are up to 244 metres deep; this makes communication between the two zones much easier." In a strongly worded reaction to the EPA, the American Petroleum Institute argued that the fact groundwater was polluted didn't prove that the polution was the result of fracking. Even industry representatives must find that response weak.

In BC it is frequently argued that fracking occurs at depths of more than a kilometer, sometimes two kilometers, far from shallow groundwater. A fact sheet from the Oil and Gas Commission says: "The Commission regulations ensure that potable groundwater is protected. This is achieved by drilling practices that include surface casing, cementing surface casing, production casing and cementing production casing." In view of the evidence from the US, it is understandable that the assurance from the Commission doesn't put the debate in BC to rest. The Ministry of Health commissioned a three-phase human health risk assessment of oil and gas activities in Northeastern BC. If it is serious about a LNG industry with five plants producing 82 million tons per year, it should be testing ground water near gas wells as was done in Pavillion, Wyoming. Hopefully the depth of BC's wells and the regulations of the Commission are sufficient to protect groundwater, but proof requires more than process, it requires regular testing of groundwater.

Having a quarter of the world's natural gas reserves is not the same as being able to monetize them in an environmentally sustainable way. As Charlie Brown once said: "There's no heavier burden than a great potential." How long will it take to translate the potential riches into better lives for all British Columbians? In the February 2014 budget we'll see whether government restraint is tempered by new found wealth. It will be hard to justify balancing the budget at any cost if riches are within grasp.