Canada’s breakthrough LNG deal with China

It has been over two months since British Columbia (BC) utility firm FortisBC announced that it had secured Canada’s first term contract to supply liquefied natural gas (LNG) to China. It is also Canada’s first to Asia.

In normal times, a breakthrough deal of this magnitude heralding the start of a new multi-billion-dollar industry would have sparked both public celebrations and a national debate over the outlook for Canada’s fossil fuel exports.

Neither happened.

The public barely reacted to the news that the Vancouver firm had concluded the sale of a total of 106,000 tonnes of LNG to China’s Top Speed Energy over a two-year period from 2021. The contract was the culmination of a series of successful spot trades that started in November 2017 when FortisBC exported its first cargo of about 19 tonnes to China.

Despite the company’s attempts to generate media excitement, the deal ended up mostly in the innards of most local papers, such was the contrast with the mood in 2013 when enthusiasm and controversy accompanied the province’s decision to build an LNG industry from scratch. Then, politicians and business groups talked up the scenario of LNG quadrupling the province’s economy into a trillion-dollar monster while critics mocked then-Premier Christy Clark’s prosperity vision built on “gargantuan” gas exports to Asia as pie-in-the-sky fantasy.

Unfortunately for FortisBC, its crowning moment has come in the midst of an increasingly dark Canadian mood towards both the fossil fuels industry and bilateral relations with China. Climate issues are now high on the nation’s political agenda. World oil and gas prices have not recovered since collapsing in 2014 just as Canada was expecting a new wave of energy investments. Brent crude prices plunged from an average US$110 a barrel in 2013 to less than $30 in late 2014 before recovering to around $60 recently. Spot LNG prices in Asia followed the same path, nosediving from $20 per million British Thermal Unit at its peak to around $5 in recent months.

Even more startling has been the collapse of Canada’s China ties, most dramatically since last December after Ottawa arrested a senior Huawei executive in Vancouver on behalf of the US government.

Everything about China today is toxic in Canada. Until the middle of this decade, boosting the energy sector and bilateral ties with China were key planks in Canada’s foreign policy and economic agenda.

It also hasn’t helped that the FortisBC deal is seen as loose change. In its entirety, the Fortis sale of 60 small containers of LNG is probably worth around $30 million at current spot prices when most global LNG deals run into billions of dollars.

Is it worth the fuss?

Despite these underwhelming numbers against a gloomy geopolitical background, the FortisBC deal with China is significant on several fronts.

First, it comes on the back of six decades of failed attempts by the industry to tap western Canada’s vast natural gas reserves to feed Asia’s rising energy demand. Japanese firms were among the first in the early 1960s to investigate the possibility of developing northern BC’s natural gas reserves for export to feed Japan’s then rapidly industrializing economy. But they soon abandoned the idea as LNG technology was still in its infancy and could not compete against coal, which was both cheap and in abundant supply in northern BC. In the most recent wave of investor interest a few years ago, the industry submitted more than 20 LNG-export project proposals, but it was FortisBC, the smallest of them, that has made the breakthrough.

Second, the FortisBC deal is proof that Canada can compete against other countries to produce and sell LNG to Asia. The deal has enabled Canada to gain a small but vital beachhead in China’s massive but hugely competitive energy market just as far more established gas producers in Asia, Africa, the Middle East, the United States and Russia are ramping up capacity.

Third, FortisBC’s success will encourage a wave of new LNG investments in the province aimed at Asia, particularly China, as the main export target. FortisBC itself is looking to further expand its plant in the municipality of Delta following the recent completion of a C$400-million upgrade, said Douglas Stout, the company’s vice-president of market development and external relations. (US$1=C$1.32).

Huge plant in Kitimat

Singapore-owned Woodfibre LNG expects to soon approve the C$1.6-billion final investment decision for a much larger 2.1-million-ton plant in Squamish city, located just north of Vancouver. And the LNG Canada consortium led by Royal Dutch Shell has already started construction of a massive C$40-billion plant in the northern port city of Kitimat, with start-up slated for 2024. The project represents the single standalone private investment in Canada’s history.

“The economics of Canadian LNG projects look comparable to some of the US greenfield projects…mainly due to the resource cost advantage and shorter shipping distance to Asia,” said Dulles Wang, Wood Mackenzie’s gas research director for North America. Wood Mackenzie is a global energy and resources consulting firm.

In an email interview, he said the Montney geological formation covering parts of the western provinces of British Columbia and Alberta has some of the most abundant and cheapest sources of untapped gas supply in North America. According to Canada’s National Energy Board, the region holds 12.7 trillion cubic meters of marketable natural gas, or nearly 6.5% of the world’s total proved reserves.

In addition, Mr Wang cites Canada’s stable cost environment and across-the-board support from the municipal, provincial and federal levels of government as crucial in bolstering the industry’s competitiveness on the international market. Even Canada’s notoriously cold weather, so often the butt of jokes, offers an unexpected cost advantage as it reduces the amount of energy used in the liquefaction process to turn natural gas into liquid.

Canada’s emerging LNG card

The fourth and least expected significance of the FortisBC deal is geopolitical. Beyond the obvious economic benefits, British Columbia’s new LNG sector offers Canada hope of some potential leverage in its increasingly difficult bilateral relations with an assertive China.

By 2024, the province’s LNG industry will have a combined annual capacity of at least 16.5-million tonnes through its three operators – FortisBC, Woodfibre and LNG Canada. A “significant portion” of their output will be exported to China, which has committed to using cleaner-burning natural gas to replace coal in its energy mix, said Wood Mackenzie’s Mr Wang.

With LNG Canada already planning to double its planned 14-million-ton facility, and the likely addition of a new 18-million-ton plant by US major Chevron, the province could have as much as 50 million tonnes of capacity a decade from today. To put this into global perspective, Australia, the world’s largest LNG producer today, has over 80 million tonnes of capacity.

With oil and gas producers around the world competing for its business, China appears to be in a commanding position to meet its energy demand. But the reality is far less comfortable as China’s energy self-sufficiency is in rapid decline. Its dependence on imported oil to feed its growing economy has reached a record 70%, and is still rising.

Just as worrying for state planners, China is also importing most of its oil and gas from politically unstable regions in the Middle East, Africa, Latin America and Central Asia. The September 14 drone strikes that shut down half of Saudi Arabia’s crude oil production for weeks has delivered the biggest warning yet that China’s energy supply line is extremely vulnerable.

According to S&P Global Platts, the kingdom was China’s leading oil supplier, accounting for 16% of the country’s 9.66 million barrels per day of imports in the first seven months of 2019. As China’s second-largest oil supplier, Russia has also become its most important strategic partner in their common opposition to the United States. But Sino-Russia ties depend heavily on the personal ties between the countries’ two top leaders. Will Russia remain a reliable energy supplier to China if either or both Xi Jinping and Vladimir Putin are no longer in charge?

For China, Canada’s advantage over most of the other suppliers will become more apparent as geopolitics return to haunt the world’s energy markets.

While it is not an energy superpower along the lines of Russia or Saudi Arabia, Canada still owns nearly 10% of the world’s oil and gas reserves. Despite all the talk about the world facing an energy supply glut, most countries remain deeply fearful of supply disruptions.

For now, Canada may seem to have little to offer China. But the attacks on the Saudi oil fields following on the FortisBC deal have served up a small but clear reminder that China might want to take a longer view of its own needs.