SHEL - East African Energy Bonanza Sees Tanzania Enter LNG Export Space

2023-06-15 17:56:22 ET

Summary

• Exxon Mobil, Equinor, Shell, and other partners are working on developing immense natural gas resources off the coast of Tanzania via an LNG export terminal on the mainland.
• Tanzanian LNG export projects were put on hold during the 2010s decade, but recent geopolitical events and rising energy prices have made a major LNG export project more economically viable.
• A final investment decision is expected in 2025, with the project potentially transforming the global energy sector and providing long-term cash flow growth for the involved energy companies.

In this article, I will highlight a major piece of news that recently came out of East Africa, which could have major implications for the global energy sector. Vast natural gas resources have been located off the coast of major East African economies in recent years, though these resources have yet to be commercialized due to the immense cost and engineering complexities involved with these kinds of endeavors, though that may soon change. Mozambique will likely be the first East African country to bring a major liquified natural gas [‘LNG’] export facility online, though in this article I’m focusing on recent developments in Tanzania.

Background on LNG

Natural gas (which is primarily methane) is inherently difficult to transport. The energy industry navigates this hurdle by cooling natural gas down to negative 260 degrees Fahrenheit to convert it from a gaseous state to a liquid state, creating liquefied natural gas or LNG. While in a liquid state, LNG takes up 1/600 ^th of the volume of its gaseous state, making transporting natural gas viable and often economical. The economics of LNG export terminals involves regional natural gas prices being much lower than global prices in key regions (namely Western Europe and East Asia), as there is a substantial cost in converting natural gas to LNG, transporting it across the globe via specialized tankers, and then regasifying those supplies. Production costs and the cost of maintaining key energy infrastructure (pipelines, storage facilities, distribution networks) are other key factors.

Exxon Mobil and Equinor

Exxon Mobil Corporation ( XOM ) owns 35% of Tanzania’s Block 2 offshore concession alongside its joint-venture partner Equinor ASA ( EQNR ), the state-run Norwegian energy firm. Tanzania Petroleum Development Corporation [‘TPDC’] is the country’s national oil company and according to Equinor, TPDC has the right to acquire a 10% stake in the Block 2 concession. After looking through Exxon Mobil and Equinor’s latest annual reports and websites covering their operations in Tanzania, it is not clear what the terms of TPDC acquiring a 10% stake in the Block 2 concession from the JV would look like. Equinor is the operator of the Block 2 concession and played a key role in the JV’s exploration success .

Part of the reason why this potential LNG export project in Tanzania that, if approved, would be worth tens of billions of dollars is not well known is due to this endeavor getting put on ice several years ago. The JV commenced exploration drilling in the Block 2 concession back in 2011 and after 15 exploration wells were drilled, the venture determined that there were over 20 trillion cubic feet of natural gas in place. Future exploration and appraisal activities could uncover additional resources.

A find of this magnitude justified the JV searching for a location on the mainland to develop an LNG export terminal. The economics of the project would be underpinned by the kinds of LNG prices the JV could fetch in Western European and East Asian markets. Usually, major LNG export projects often involve developing a natural gas-fired power plant near or at the terminal to meet local electricity demand and to appease regulators.

However, due to the downturn in oil prices that began in late 2014 (which lasted through early 2021) and the related decline in global LNG prices, Exxon Mobil and Equinor opted not to move forward with the project and did not sanction the endeavor in 2016-2017 as originally envisioned. That doesn’t mean that the potential project was scrapped altogether, but moving forward with a project of this size during a prolonged period of low raw energy resource pricing didn’t make sense for either firm.

As crude oil prices began a sustained recovery starting in early 2021, that in turn helped drive up LNG prices for natural gas supplied via Brent-linked contracts and favorably impacted spot LNG prices as well. Most importantly, the outlook for future LNG prices started to become favorable. Furthermore, in the wake of the Russian invasion of Ukraine in February 2022, there is now a great need for Western-aligned nations in Europe and East Asia to secure energy supplies from non-Russian sources. These factors, among others, significantly enhanced the economic and geopolitical reasoning behind moving forward with a massive LNG export project in Tanzania.

Shell and Its Partners

It is important to keep in mind Shell plc’s ( SHEL ) role in a potential LNG export project in Tanzania. After Shell acquired BG Group back in 2016, it became the operator of the offshore Block 1 and Block 4 concessions in Tanzania. Shell’s partners in these blocks are the Indonesian energy firm Medco Energi and Pavilion Energy, which is owned by the Singaporean state-owned conglomerate Temasek. According to Shell’s 2022 Annual Report , the company owns a 60% interest in both of these concessions under a production sharing agreement that is set to expire in 2024.

Shell likely has the ability to, and ultimately will, extend the length of the production sharing agreement. That process will be an easier task if the company, its partners, and its potential partners (Equinor and Exxon Mobil) are willing to move forward with a joint LNG export development. After 22 exploration and appraisal wells were drilled in Block 1 and Block 4, Shell and its partners determined that these concessions house 16 trillion cubic feet of natural gas in place (these are the resources discovered so far).

Moving Forward

This background information is necessary to understand the significance of recent events. Exxon Mobil, Equinor, Shell, Medco Energi, Pavilion Energy, TPDC, and Tanzania reached an agreement to develop these offshore natural gas resources and to construct an onshore LNG export terminal in Tanzania as part of a combined effort that was announced in May 2023 .

As noted previously, there is a lot of natural gas resources off the coast of Tanzania, and these partners have immense financial resources at their disposal. Such a project would likely involve drilling numerous production wells, creating offshore production platforms, developing a subsea pipeline network, building several LNG liquefaction trains, erecting storage facilities for LNG, constructing a deepwater LNG marine terminal, building export infrastructure, and creating other energy infrastructure to support domestic natural gas consumption (such as distribution networks and a natural gas-fired power plant).

According to Reuters, Tanzania’s chief negotiator on the development framework expects that the energy firms and government could reach a final investment decision in 2025. Changes in the regulatory, tax, and legal framework along with new production sharing agreements are part of this process and the ownership structure of the onshore LNG export terminal remains to be seen. There are still plenty of issues to be resolved. However, it appears that after major LNG export projects were put on ice in the country in the wake of the oil and LNG pricing bust that started in late 2014, major energy companies are now willing to take the plunge and commit billions (or tens of billions) towards developing Tanzania’s immense natural gas resources.

Concluding Thoughts

The size of the natural gas resources discovered off the coast of Tanzania and Mozambique (Tanzania’s neighbor to the south) are transformative for the global energy sector and the regional economies in East Africa. For the energy majors involved, the ability to commercialize past exploration successes will provide Exxon Mobil, Equinor, and Shell with major long-term cash flow growth drivers that many investors were likely not considering in their evaluation of these firms. I’m keeping an eye on Tanzania’s emerging LNG export industry.

Some related tickers are United States Natural Gas Fund LP ( UNG ), the Energy Select Sector SPDR Fund ( XLE ), and the SPDR S&P Oil & Gas Exploration & Production ETF ( XOP ). As Tanzanian LNG supplies would compete for US LNG supplies, the aforementioned developments are significant for US natural gas prices, producers of natural gas in the US, and US-based LNG exporters including those included in the XLE ETF.

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