It’s been some time since I have written a more technocratic piece; as such, this may not be for everyone. If you’re here for LNG, read on; if you're not, I won’t take offense.
It’s also possibly unwise, and not just because it might have a narrower audience. I usually try to steer clear of opining on the actions of specific companies or individuals (with the exception of politicians who, by the very nature of democracy, are fair game for commentary). But this case is so big, interesting, different and, well, consequential, that it bears analysis.
We need to talk about Venture Global LNG who, for the last 5 years or so, have been the most exciting LNG company on the planet.
Let’s start, as we always should, with the history.
VGLNG were the plucky little company that could. As the first wave of US LNG was cresting, they emerged with a concept and a pricing structure for Calcasieu Pass LNG that most of us LNG nerds couldn’t quite fathom. They were marketing their product with a reputed $2 liquefaction fee that didn’t really seem feasible. Industry chatter at the time openly pondered how could they possibly make money at this bargain basement price? Would they be able to secure project financing with such razor-thin margins?
The likes of Shell, BP and Repsol signed contracts early. I always suspected that Shell, for example, had the option to develop their own projects, but couldn’t match this pricing - so they took a speculative punt on VGLNG. If it went ahead, they got cheap gas; if it didn’t, then they know their next best option.
The technical concept was also somewhat different: 10 million tonnes per annum from 9 (or 18, depending on how you count it) modular small-scale LNG trains. Conventional wisdom would suggest 2 ‘normal’ size trains for this kind of throughput. This meant that they would be able to gradually bring on production starting earlier in the project - if you understand how traditional economics discounts future cash flows, the commercial appeal of this is clear.
As a company, they also didn’t look much like anyone else. There aren’t too many LNG companies who choose to have their head office overlook the Potomac. They had clear financial capability, a set of contractors who generally hadn’t done much in the LNG space, and a peculiar protectiveness of their apparent ‘special sauce’.
Full disclosure: a few years ago, I interviewed several times for a senior technical role at VGLNG, including with their then co-CEOs. I wasn’t offered it (no regrets on my side and after I publish this, I expect there to be none on their side either…). I should add that I know many excellent people who have worked for VGLNG, so there’s no lack of capability there.
Back to VGLNG.
Perhaps most impressive was the manner in which they leveraged their business model to sell and sanction a look-alike facility at Plaquemines before having produced a drop of LNG at Calcaseiu. When then-President Trump was marketing “Freedom Gas”, VGLNG were seemingly nearby with a pile of paper and a ceremonial MAGA pen.
So far, bravo! Well played VGLNG - this is the kind of innovation that disrupts industries. If you’re here then you’ll know I like to extol the virtues of LNG, and I’m all for innovations that mean we can get more LNG on the water at a lower cost.
Calcaseiu Pass LNG was sanctioned in August 2019, and produced its first cargo in March 2022, which is astonishingly quick – approaching half the normal time from FID to first cargo.
When a new facility starts up, there is a period between first production and the declaration of commercial operations, which brings to life the pre-agreed sales contracts. Contract holders commonly have proportional first rights to buy the so-called commissioning cargoes produced in this period (which typically might be something like 3 months), at the contract price.
The best information I have is that CPLNG has now produced >170 cargoes but is yet to declare commercial operations. They appear to have sold these cargoes themselves into an outrageously elevated spot market, courtesy of Europe’s desperation for gas, and reportedly received revenues of ~$18B. If these cargoes had been sold at contract prices, their revenue would have been more like $3B.
It's not clear if all liquefaction trains are yet operational; some stories have escaped relating to power generation problems (specifically with the steam system – the ‘combined’ bit of combined cycle gas powered generation).
The buyers are clearly displeased. Contracting with a new entrant carries what we would call performance risk – they are unproven in the construction, commissioning and operation of LNG facilities – so there is a heightened chance that they may not be able to deliver on time. Also, someone like Shell signing an offtake contract effectively loans their hard-earned credit rating to VGLNG, allowing them to get financing. Some may expect a little gratitude in return.
This particular spat has gone public, with the buyers appealing to both Washington and Brussels through the US – EU Task Force on Energy Security in an attempt to implore VGLNG to breathe life into the contract. VGLNG have publicly returned fire, asserting that they are complying with the terms of their contract. Perhaps tellingly, they have also smeared Shell’s LNG project performance. More on that later.
So, the 4 Non Blondes question: What’s going on?[1]
The LNG industry was historically anchored with long-term contracts to sell gas to Japan; as such, tradition, partnerships, and good faith have been an important part of how this game has been played. Turn up to any meeting between a traditional seller and a NE Asian buyer and you can expect the first 20 minutes to be talking up how long, deep, and important the relationship between the two organisations has been.
And you know what? It matters, and it makes a difference. Prioritising the long-term relationship over a near-term dispute is a good way to chart a course through troubled waters. Attempting to cover everything in a contract is close to impossible – and it’s eminently possible that the buyers held unconscious expectations of the seller, a new market entrant.
Next, let’s follow the legal track. I have zero specific knowledge of what is in the contracts; if they do not include the usual commissioning cargo provisions, then shame on Shell et al. They know better, and their investors should be displeased.
The reports relating to the technical problems that VGLNG are experiencing suggest issues that I would generally expect to be covered by contractual Force Majeure provisions (i.e., declare commercial operations, then FM relief based on the specific issue).
The US LNG business model, and specifically the accountability for pipeline gas procurement, has changed the motivation of various players to pursue a FM claim in comparison to the traditional business. In this case, producing into the ultra-inflated 2022 LNG market would have provided a supremely tempting financial incentive, and it’s easy to imagine how the frog may have been boiled with ‘just one more…’ until the position became impossible to walk back.
I think we’ll need the courts to opine on what the contracts actually say. Clearly, both sides think that they have a defendable position. However, relativity applies here: the seller and the buy approached these deals from different paradigms.
I suspect that VGLNG believe they have a tight legal position. Shell et al may have (subconsciously?) expected VGLNG to behave in the manner of a traditional seller. Their argument may rely more on clauses referring to ‘good industry practice’ or ‘reasonable and prudent operator’.
So what happens now? Well, VGLNG have suggested that the status quo will endure through until late 2024, and any court action is likely to be geologically slow. But the smear on Shell’s project performance gives us an interesting insight into the bigger picture.
Google tells me that it’s an 11-minute drive from VGLNG’s Virginia offices to 1600 Pennsylvania Avenue. In politics, it’s common to smear in preference to engaging in a debate – and I’m willing to bet that VGLNG have some DC veterans amongst their ranks. They are going to need them.
They may well win this case, wherever and whenever it gets heard – judges in such situations are, by definition, legal technocrats. Even in America. Mostly.
They may well retain their swollen balance sheet as a result. But they’re still trying to grow by marketing additional projects, and a great number of buyers may be dissuaded by this case. I’ve said many times that a shortcut for judging the quality of an LNG project by looking at the quality of its buyers. VGLNG may struggle in the future, and may become a takeover target.
Of more concern is the collateral impact on the brand of US LNG. We write contracts to cover things that don’t anticipate, or we hope don’t happen, but trust remains fundamental. Despite the best hopes of the transition glitterati currently en route to the UAE, market evidence suggests that damage to US LNG only benefits the coal miners.
This case is a canary – and that’s why it matters.
[1] To keep my lawyers happy, I have no inside knowledge of this situation – I am simply applying what I understand to be industry common practice to the publicly available information in order to generate a hypothesis.