The renegotiation of a 20-year liquefied natural gas contract to lower the price paid by India’s Petronet LNG go to one of its suppliers, ExxonMobil, demonstrates the risks faced by LNG exporters in the oversupplied Asia Pacific market, according to Fitch Ratings.
Larger LNG importers, such as Japan, South Korea and China, have a strong bargaining position and could push for renegotiations in their own long-term deals, the ratings agency said in a report on Tuesday.
To remind, India’s oil minister, Dharmendra Pradhan said recently that the country has renegotiated the price of the chilled fuel Petronet is buying from ExxonMobil’s share of the giant Gorgon LNG project in Western Australia. As part of the new deal, Petronet will reportedly also buy additional Gorgon volumes.
A ramping up of LNG production in Australia and the commencement of LNG imports from the US in August 2016 has pushed up supply in the APAC market and put downward pressure on spot prices. Spot prices are now well below those agreed in most existing contracts, Fitch noted in the report.
Further production increases are in the pipeline, which in an already oversupplied market is likely to keep prices under pressure in the medium term.
Market conditions have increased the bargaining power of buyers, which is evident from their increased preference for spot instead of term contracts, the report said, adding that shorter terms are also being sought.
LNG contracts are typically drawn up for 20-25 years, but there are reports of buyers looking for 10-15 year terms.
Renegotiation of existing contracts takes this a step further. Cases have been rare so far, with the renegotiation between Petronet and Exxonmobil the first instance in APAC involving a contract that uses a standard pricing benchmark, the report said.
According to Fitch, it could create pressure for the renegotiation of other LNG contracts. ExxonMobil has agreed to accept lower prices and to absorb freight costs. It has reportedly reduced prices to less than 14% of Brent from 14.5% on already-contracted supplies, and accepted 12.5% on additional supplies. The alternative may have been termination of the contract by Petronet, which would have forced ExxonMobil to sell output at spot and pursue damages in court.
India is a relatively small, if growing, importer of LNG, according to Fitch. The larger importers that have not so far looked to renegotiate contracts could have a much more significant impact on exporters. Japan accounts for around 32% of global LNG imports, South Korea for 13% and China for 10%. India accounts for 7%, slightly more than Taiwan, at 6%.
The market power of Japanese buyers was enhanced by the merger of TEPCO Fuel & Power and Chubu Electric Power Co in April 2015. The new entity, JERA Co, is now the largest LNG buyer in the world. It is reportedly aiming to cut the proportion of its purchases covered by long-term contracts to around 50% from 80%-90%.
JERA also signed a memorandum of understanding in March 2017 with Korea’s KOGAS and China’s CNOOC to collaborate in the LNG market, including through the joint procurement of LNG. These three companies, which account for one-third of global LNG demand, are seeking more flexibility in their contract terms with producers. In particular, they are pushing for a change that would allow them to re-sell LNG imports to third parties, which would further weaken producers’ global pricing power.
LNG producers in APAC could face greater earnings pressure if there was a concerted push for renegotiation of existing contracts by major north Asian buyers, Fitch says.
Origin Energy, which has a 37.5% stake in Australia Pacific LNG, appears the most exposed among Fitch-rated companies in APAC.
Its negative outlook captures the impact of LNG market weakness on its credit profile, including the risk of lower dividend receipts from APLNG. Conversely, price reductions would be positive for LNG buyers in APAC, the report said.