Russia Enters Global LNG Market Thanks to Foreign-Built Plant

Russia’s first-ever plant for liquefied natural gas (LNG) was inaugurated near Yuzhno-Sakhalinsk on February 18 in the presence of Russian President Dmitry Medvedev, Britain’s Prince Andrew, Netherlands Economic Affairs Minister Maria van der Hoeven, and Japanese Prime Minister Taro Aso. The plant will process gas from the Sakhalin-2 extraction project, consisting of several offshore fields in the Sea of Okhotsk.

The consortium as presently constituted includes Gazprom with 50 percent plus one share, Royal Dutch Shell as project operator with 27.5 percent, and the Japanese companies Mitsui and Mitsubishi with 12.5 percent and 10 percent, respectively. Sakhalin-2 gas reserves are estimated at up to 2 trillion cubic meters (along with crude oil reserves estimated at up to 150 million tons). The total investment in gas extraction and liquefaction is valued at $22 billion for the project’s 20-year lifetime.

Japan is due to receive the lion’s share, 65 percent, of Sakhalin-2 gas, with South Korea to receive some volumes and North American companies also lining up for contracts. The sea depths around Japan ruled out the construction of pipelines from the nearby Sakhalin Island, necessitating the liquefaction of the gas and its transport by a fleet of as many as 50 tankers, once the project comes fully on stream.

The Sakhalin liquefaction plant, to operate at full capacity beginning in 2010, is expected to produce 5 percent of the world’s annual LNG supply. Japan imports almost 40 percent of the LNG traded worldwide at present. The additional import from Russia would diversify the sources of Japan’s LNG, almost all of which has originated in the Gulf region thus far. Sakhalin-2 will account for 7 percent of Japan’s LNG imports.

At the inaugural event, Aso said Japan particularly valued the geographic proximity of gas and oil from Russia’s Far East, compared with Middle Eastern sources. Japanese companies are now planning with Gazprom to launch the Sakhalin-3 project, envisaging exports of gas to Asian countries from 2020 onward (Interfax, February 18; Kommersant, Handelsblatt, February 19).

Geographic proximity, however, is not necessarily synonymous with supply security if Russia is the source, as the experience at Sakhalin has demonstrated. In 2006 and 2007 Russian authorities compelled the Sakhalin-2 consortium partners to change the terms of their production-sharing agreement and also to cede part of their assets to Gazprom. Up to that moment, Shell had held the majority stake and provided most of the technological inputs for the challenging phases of extraction and liquefaction. Once those challenges had been overcome and the technology provided, Moscow unleashed its environmental and regulatory authorities against Shell. Under threats of multibillion dollar fines and possible eviction from the project, Shell was forced to accept the status of a minority shareholder and to sell $12 billion worth of its investment to Gazprom at a dictated price of $7 billion. The two Japanese companies also had their stakes reduced in that process of partial re-nationalization of foreign assets by the Russian state (see EDM, December 13, 2006; January 3, 2007).

At present, Russian authorities are pressuring ExxonMobil to change the terms of its production-sharing agreement with Gazprom at the Sakhalin-1 joint project. The American company’s subsidiary there, Exxon Neftegaz, had enjoyed a contractual exemption from restrictions on gas exports from this project. Now, however, Moscow wants the gas from that project to be sold in Russia, rather than to Asian countries as originally intended. Russian authorities are holding up approval of the Exxon Neftegaz investment budget for 2009, almost forcing the project to a standstill. The Japanese companies Itochu and Marubeni, the Indian state energy firm ONGC, and Russia’s Rosneft are minority shareholders in the Sakhalin-1 gas project (Moscow Times, UPI, February 18).

This situation resembles that of BP’s Kovykta natural gas project in eastern Siberia. Since 2007 Russian authorities have pressured BP to renounce its right under the original agreement to export the future product to China. Instead, Moscow prefers to see Kovykta gas sold in Russia and has used this situation to pressure BP on other issues. Eager to break into the global LNG market, although it lacks LNG technology, Moscow has sought to share in BP’s large LNG operation on Trinidad & Tobago (which supplies North America), in return for which Moscow would presumably have relented at Kovykta.