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Australia’s largest producers join the cutback bandwagon

Developers have begun delaying new gas projects in response to oil price pressures and further capex cuts may be necessary

Australian independents Woodside Petroleum and Santos have both announced major capex cuts and deferral of several multi-billion dollar LNG projects,  following plunging industrywide oil prices.

The downgrade may have been triggered by an escalating oil price war between Saudi Arabia and Russia. But Asia’s spot LNG prices have also been in the doldrums for months—first due to unseasonably warm winter temperatures and then the Covid-19 demand shock, which triggered a Chinese shutdown in January.

The combination of demand destruction and market oversupply has driven Brent down to a 20-year low, while the JKM futures prices on the CME are below $3/mn Btu for monthly contracts from May through to September.

Capex cuts

Santos said on 23 March that it intended to cut capex in its underlying business from A$950mn (US$576 mn) to A$750mn for 2020, while its budget for growth projects would be slashed from A$500mn to A$150mn.

The company’s growth projects include the Barossa development, which is the lead candidate to backfill the 3.7mn t/yr Darwin LNG terminal, as well as the Dorado oilfield off the coast of Western Australia.

Santos CEO Kevin Gallagher admits an FID on Barossa is likely to be delayed because of the low oil prices, adding the decision would be revisited when “business conditions improve”.

“A second wave of Australian LNG investment will be put on hold as expansion and backfill projects are deferred” – Harwood, Wood Mackenzie

Woodside, meanwhile, intends to reduce its capex this year from $4.5bn to $1.7bn, while total spending is being roughly halved to around $2.4 billion. The company said on 27 March that FIDs on the Scarborough and Browse LNG projects and the second train of the Pluto facility would be deferred owing to market uncertainty.

Woodside CEO Peter Coleman says the cuts and delays were the result of continued oil price volatility and uncertainty. But he stresses that, despite the ambiguous outlook, Woodside still enjoys “world-class, low-cost producing assets, which are resilient to commodity price fluctuations”.

Japan’s Inpex, which last year flagged up the possibility of expanding its Ichthys LNG project in Darwin, said on 25 March that it was looking to cut costs—without specifying which projects might be deferred.

Double impact

Rationalising both discretionary and committed spending where possible will be key to surviving the current oil price downturn, according to Andrew Harwood, research director at Wood Mackenzie.

“There is no escape from the double impact of the oil price crash and the enforcement of coronavirus containment measures,” he says. “A second wave of Australian LNG investment will be put on hold as expansion and backfill projects are deferred. Growth projects will be off the table for all but the most financially secure companies.”

In addition to Australia’s gas exporters, local independents have also begun reviewing discretionary spending. Beach Energy said on 27 March that, while the group’s gas sales covered its operating and stay-in-business costs, the company was taking steps to “defer or minimise some near-term discretionary capital expenditure”.

$3/mn Btu – level Asian LNG has dropped below

While further discretionary spending cuts among Australia’s developers seem likely— especially if low oil prices persist for the rest of the year—this may not necessarily translate into a significant number of additional project delays.

LNG exports are experiencing a period of intense uncertainty, but the outlook for Australia’s domestic gas market is much stronger. The Australian Energy Market Operator (AEMO) said in a report published on 27 March that the east coast market could see supply shortages from as soon as 2023. Domestic-focused gas projects that secure term sales agreements not linked to oil could still reach FID without setback.

In late March, domestic producer Senex Energy issued an insightful breakdown of how protections in its contracts and its hedging strategy will insulate it from the current downturn. Its portfolio includes fixed-price domestic gas contracts, oil-linked gas contracts and oil production with material downside hedging in place.

In the Cooper Basin, over 500,000bl of Senex’s oil production is hedged for an 18-month period up to the end of 30 June 2021 at prices between A$90-95/bl. At Roma North, its oil-linked gas sales agreement with Gladstone LNG has downside price protection built into the contract and delivers positive operating cashflow at below $15/bl and gas revenue of more than A$5/GJ at a spot oil price of $27/bl and an exchange rate of A$/$ of 0.60. At Atlas, over 60pc of Senex’s expected gas production through to the end of 2022 is contracted at strong fixed prices. And 95pc of its Surat Basin gas production is contracted for 2020.   

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