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LNG comprises approximately 9.8 per cent of the world’s energy supply.1 It is an important and growing part of the global energy mix: in 2017 the global LNG trade set a record of 293.1 million tonnes (MT), an increase of 35.2 MT (or 12 per cent) from 2016, which itself was a record year. 2018 is expected to see a further record. The expansion of LNG has led to an increase in LNG related production and delivery projects including: (i) liquefaction projects (onshore and floating); (ii) LNG carriers; and (iii) LNG receiving projects (i.e. storage and regasification projects both onshore and floating).
This expansion is expected to continue. There is 92 MT per annum (MTPA) of liquefaction capacity actively under construction in 2018 which is a significant increase to the existing nominal liquefaction global capacity of 369.4 MTPA. 24 new LNG carriers entered the global fleet in 2017 bringing the total fleet to 478 plus a further 106 on order, which amount to an increase of 18 during the course of 2017. Further to this, 87.7 MTPA of LNG receiving capacity is actively under construction in 2018, again a significant increase to the existing global receiving capacity of 851 MTPA.
The scale and costs of LNG projects are substantial and growing. For example, the International Gas Union’s (IGU) 2018 World Gas LNG Report records that the global average liquefaction unit costs for greenfield projects between 2009 to 2017 increased by approximately 250 per cent (to USD 1,005/tonne) compared to the period between 2000 to 2008. The global average masks significant regional variations, with the costs for Pacific Basin projects increasing by nearly 400 per cent in the same time frame (to USD 1,458/tonne). As a rough guide, liquefaction costs comprise approximately 75 per cent of the overall capital expenditure on an LNG supply chain, with shipping costs and receiving regasification costs comprising approximately 15 per cent and 10 per cent respectively.
LNG projects possess characteristics and risks that tend to amplify the potential for high value disputes. Such projects are highly technically challenging (including Floating LNG technology) and require a myriad of sub-contractors, often based across multiple jurisdictions. They are environmentally sensitive and subject to stringent regulatory requirements. LNG projects are often politically sensitive and subject to significant public scrutiny. LNG projects involve very significant upfront capital expenditure, with essentially no income generation prior to project commissioning. Moreover, the overall viability of an LNG project, which may have an expected lifetime exceeding 30 years, will often depend upon the long term stability and predictability of regulatory, political and economic environments.
For liquefaction and regasification projects in particular, the risks associated with them include: project economics, environmental approvals and regulation, political risks, joint venture risks, technical engineering, procurement and construction challenges, feedstock challenges and end product marketing and contracting.
All of the above risks can impact heavily upon an LNG project and lead to disputes. Successfully addressing disputes efficiently can be critical to prospects of a given project.
There are a number of stages to an LNG project, which commonly include the following: (i) planning and regulatory approvals; (ii) front end engineering and design (FEED); (iii) EPC construction; (iv) commissioning and handover; and (v) post-commissioning operations and price reopeners. Each of these stages presents potential contentious risks and challenges for the parties involved. For example
Frequently, the forum of choice for resolving many of such disputes will be international arbitration.
With the increase in number and value of LNG construction projects, no doubt the number of LNG construction related arbitrations is set to rise. Disputes can however be ameliorated with appropriate contentious risk management during the project life-cycle.
In terms of contentious risk management, especially during the construction phase, parties should keep a number of issues in mind including the following
LNG projects across the LNG cycle are of growing importance to the world’s energy supply. They are costly, long term projects that come with substantial technical, economic and political risks all of which heighten the risk of disputes throughout the project life-cycle. While prevention is better than cure, careful and proactive management of the circumstances giving rise to contentious issues and disputes is a critical element in any LNG project.
Unless otherwise noted, all figures in this article are taken from IGU 2018 World LNG Report.
In this edition of Insurance Focus we consider the growing need for insurance companies to take an holistic approach to managing the risks posed by climate change.