LNG Risk Takes Many Forms

When it comes to media coverage of the prospects for the siting and development of liquefied natural gas (LNG) facilities in the United States and Mexico, there is often a dichotomy between perceptions and the actual risks associated with such projects. In the public’s mind, the main issue is safety and the potential for catastrophic fires or explosions on an in-bound tanker or at a regasification plant.

For the companies that are considering construction of as many as 40 new LNG facilities in the Americas, risk takes a very different form.

A recent Department of Energy study conducted by the Sandia National Laboratory poses what may be the extreme safety risk scenario – the potential effects of a terrorist attack on an LNG tanker as it makes its way to a harbor in a densely populated area. While LNG in its super-cooled, liquid state poses no threat of explosion, the Sandia study looked at a combination of a rupture of a tanker hull, the rapid expansion of fuel into a gaseous form, and ignition that could cause “major injuries and significant damage to structures” as far as one-third of a mile away and inflict severe burns on people a mile distant from the event. A terrorist incident might take the form of sabotage, a grenade-rocket launch, or suicide attack by boat or airplane, according to the report.

The study, released in December, has become a crucial piece of ammunition for LNG opponents in several locales, most especially in Boston Harbor, which hosts one of four existing LNG regasification plants in the United States. Besides the Everett, Massachusetts, terminal, LNG is routinely imported at Cove Point, Maryland, Elba Island, Georgia, and Lake Charles, Louisiana. These four facilities were responsible for about 500 billion cubic feet of imports in 2003, and plans for expansion at three of the sites will push their import capacity to more than three times that amount by 2008, according to the US Energy Information Administration.

Besides expanding these current sites, the Federal Energy Regulatory Commission lists 50 sites that have been proposed or identified by developers as potential projects for the US, Canada and Mexico markets. FERC holds jurisdiction over land-based facilities and the US Coast Guard oversees offshore projects (see below for a list of projects that have been approved or formally proposed for licensing in the US).

Industry proponents counter that the safety record at existing facilities has been exceptional for more than 40 years, with no significant spills or breaches of LNG cargo tanks that have made something like 35,000 deliveries worldwide.

And yet, the potential for explosion – what one colleague of mine has called “the kaboom factor” – looms large in public perceptions of risk associated with LNG imports. The debate could spell the difference between success and failure for many of the gas processing plants now on the table, with the odds shifting in favor of off-shore terminals and those located far away from population centers.

Howard Margulis, an attorney with the Salans Global Projects Group in New York, said that developers and sponsors of proposed LNG terminals “have not done a really good job of talking about the low risks” of the kind of incident described in DOE/Sandia Lab report. “There is virtually no risk of an LNG explosion,” Margulis claimed. It would take what he called a “serendipitous combination of factors” to trigger such an event, “factors which could not possibly be planned by a terrorist.”

And yet, Margulis admits that the public perception of risk is one of the major limitations on potential greenfield development of LNG facilities in the US. “The planned 40 terminals will not get built,” he predicted. In the next decade, we may see “less than ten and more than three” actually go forward. Determining exactly which of the many proposals will reach completion will depend on several factors – public opinion being only one.

From a financial point of view, the major risks associated with LNG expansion and development have more to do with things like the credit quality of shippers, the sources of supply, the technologies used at receiving points for regasification, and the extent of involvement by capital markets. Each project and each particular locale will face a different set of circumstances, he said, making it very difficult to assess the likelihood of success for proposed facilities.

One area of risk that has been gaining in prominence is that of supply source. In the past, Margulis has warned of the potential for creation of a new “LNG cartel” among such gas producing nations as Algeria, Indonesia, Qatar and Russia – places that are not always perceived as friendly to US interests. LNG opponents have taken up the argument that it makes little sense to further increase our dependence on imports of fuel from possibly unstable regions of the globe.

In response, some LNG developers have been looking to places like Australia as a more reliable source. “The perception is that we are more secure taking gas from certain shippers than others,” Margulis pointed out. “I don’t think you can categorically say Australian gas is more secure than Russian gas or Indonesian gas. You need to know the specifics.”

The Bottom Line: “The primary risk is associated with a given project’s acceptability in the specific area” where it will be located, Howard Margulis said.

Safety risk plays a critical role in public acceptability, but nearly as important will be the perception of financial risk associated with developments. Margulis hinted that credit ratings agencies are beginning to look at the various projects with an eye towards quantifying those risks. The mechanism for mitigating such risks will shape the financial and business structures associated with these projects. He predicted a variety of forms that project financing would take, including corporate finance and “hybrid” structures that combine debt, equity and portfolio financing to allow for risks to be spread among all participants. “No one particular finance structure will predominate,” he observed.

We’ve yet to see any public assessments from the major credit ratings agencies for individual project proposals, although the agencies have recently issued several reports about the global and domestic markets for LNG. Each day brings new announcements of progress by LNG developers, however, with several now securing permitting, construction contracts and supply agreements with gas-producing regions.

We can soon expect the capital markets to start selecting winners and losers from among those proposals that pass the first critical test of public acceptability.

In addition, there are another dozen US locations that have been identified by developers for potential LNG terminals. Source: FERC Office of Energy Projects.