Industry Insight: LNG - Play the Long Game

Grace Quinn

From January 1st 2015 the shipping industry has become subject to new regulations which affect marine fuel specifications and in turn the global market. The International Maritime Organization (IMO) has reduced the maximum sulphur emissions limit for all vessels traveling in Emission Control Areas (ECA's).

Currently residual Fuel Oil (FO) dominates as the bunkering fuel of choice; however these new regulations impose limits affecting which marine fuels remain compliant within certain jurisdictions. All vessels traveling through these areas will be required to burn low sulphur fuels, such as Marine Gasoil (MGO) or Liquefied Natural Gas (LNG) as replacement for FO. Alternatively vessels will need to stimulate exhaust gas scrubbing .

All compliance options will affect the bottom line but not all may be feasible for each vessel or fleet.  Regardless, this regulation will have significant financial implications for the shipping industry and more specifically for those responsible for bunker fuel costs. In most cases this responsibility lies with ship owners and proposes a significant challenge as the market faces uncertainty across numerous variables.

Many believe MGO to be the most viable solution to the tightening of sulphur limits, particularly in the near term, with LNG and scrubbers requiring greater capital investment and longer term payback. Recent macroeconomic changes have altered the current investment proposition, particularly for LNG.

LNG as a Marine Fuel

Drivers

Firstly, the US shale gas revolution has contributed significantly to the rise of LNG as an alternative to oil as a global marine fuel. Australia, East Africa, the Middle East and Russia follow closely as the largest gas resources . Supply security and availability combined with continued low gas prices have allowed LNG to compete effectively in this market. As a result, LNG has become an attractive alternative to FO regardless of regulatory change, particularly in North America.

The appetite for LNG as a marine fuel has undoubtedly been propelled by its price advantage relative to MGO and its positive environmental credentials, in light of tightening emission regulations. LNG produces no sulphur oxides (SOx), while its emissions of carbon dioxide and nitrogen oxides (NOx) are substantially lower than fuel oil and distillate marine fuels. Potential restrictions on wash water from open loop scrubbers and tightening NOx emission limits from 2021  have further served to escalate LNG's profile.

Additionally, for those LNG Terminals which have witnessed a downturn in usage as a result of diverted cargoes to higher priced markets, the LNG bunkering market presents a new profit proposition.

As you can see there are a number of factors working in its favour.

Hurdles

The biggest hurdle to LNG acceptance as a global marine fuel is the perception that there is a lack of infrastructure to support it. Ship owners have been reluctant to invest until they can be assured such infrastructure is in place. Suppliers on the other hand have sought evidence of demand, which for many has progressed to a commitment of investment. Shell, for one, has said it will make LNG available where needed .

LNG tanks take up around twice as much space in order to deliver the same degree of propulsive power which can be viewed as a hurdle by some industry stakeholders.

Additionally, the upfront capital costs required to invest in LNG fuelled vessels or challenge existing fuel oil delivery systems may be seen as prohibitive. LNG vessels can currently cost 15-20% more than conventional vessels as discussed at the recent LNG Bunkering Summit in Amsterdam. However, a cost benefit analysis that considers projected MGO versus LNG pricing, scrubber investment or other sources of supply, both now and when global compliance comes into play, may demonstrate that the increased LNG vessel cost may present a more efficient investment model for your operations.

The recent drop in oil price may cause a slowdown in the near term development of LNG export plants depending on price indexation. The degree of insulation for these LNG projects will depend on whether they have been price indexed to oil or not.

Who Has Jumped on Board?

2014 saw some notable vessels enter the LNG market and notable progress in the integration of LNG as a marine fuel. For example;

• Approval in Principle (AIP) of the draft International Code of Safety for Ships using Gases or other Low-flashpoint Fuels (IGF Code). This has provided much needed clarity on certain areas of new build vessel design.
• IMO's efforts towards a standard bunker delivery note (BDN) for LNG including gas quality specifications.
• ISO's commitment to developing standards for LNG bunkering connectors.

In addition, much is happening around the world. In Europe LNG fuelled passenger ferries and offshore support vessels have operated in Norway since the early 2000s. Plans for LNG bunkering are taking shape with Rotterdam now allowing ship-to-ship bunker deliveries and ocean going vessels to be LNG fuelled, in addition to opening the LNG break-bulk terminal where bunker barges will be able to load. Antwerp already has the capability to refuel inland LNG barges by truck. Spanish, Finnish and Germany authorities too have endorsed various developments supporting LNG fleets and supply infrastructure. LNG demand is also growing in the Baltic region. Nordic LNG supplier Skangaas has confirmed a ship-to-ship bunkering deal with North European Oil Trade (NEOTT) and Shell has confirmed plans to build a sea-going LNG bunker vessel serving the northwest European market.

The EU's further endorsement to promote LNG as a transport fuel can be witnessed under the European Union's Trans- European Transport Network (TEN-T. As a result 139 ports have been targeted across Europe to offer LNG bunker capability by 2020 (seaports) and 2025 (inland water ports).

Outside of Europe, Fujairah has the potential to become an LNG bunker hub on the back of the Emirates LNG project. Likewise, Singapore is well placed to capitalize on this emerging market, given its current dominant role in marine bunkers. China is also backing plans for a LNG bunkering network along the Yangtze River.

LNG is a buyers' market. Proposed supply capacity is likely to far exceed demand and with the mounting number of suppliers and facilities coming to the game, creates an exciting opportunity to negotiate terms with those eager to secure demand.

The Long Game

The global expansion of LNG trade will continue to facilitate the development of LNG bunker supply chains by capitalizing on existing and future regasification and liquefaction terminals.

Which future fuel strategy will optimize your operations and when should you invest? With current uncertainties around market fundamentals all options may seem like a gamble. The LNG supply landscape however is undoubtedly becoming less ambiguous as supply and demand gain ground. What is certain, is that those who maintain their 'wait and see' approach too long may end up missing the boat, as you risk losing margin and bargaining power in the short term.

For ship owners looking to make these decisions flexibility may be the answer. Choosing dual fuel engines that can burn both gas and fuel oil and can be converted to LNG will go somewhat towards risk mitigation. These are known as 'LNG Ready' ships. Currently, approximately 52 LNG fuelled ships are in operation worldwide with a further 80 confirmed LNG powered vessels on order.

Understanding how much value is at stake and keeping informed of the escalating LNG investments should provide some reassurance to those waiting for direction before investing in the future.