Total invests in LNG: costly mistake or lucrative advantage?

By Mateusz Frączek | 4th September 2020

According to predictions, this year would be promising for oil and gas companies.  BP and Shell pledged to provide their shareholders with higher income, through greater dividends, while generating higher returns and improving their credit position as they worked on developing cleaner forms of energy. However, amidst the economic slowdown and uncertainty caused by the pandemic, majority of big energy players changed their long-term goals. Total, a French energy conglomerate, became the only exception by staying committed to its $20bn investment in Mozambique. Why such a brave decision was made and what social implications the project may bring?  

In April, the price of oil fell below $20/barrel with demand plummeting by nearly a third with less business travel and idle factories. Unsurprisingly, China, which guzzles roughly 10 million barrels a day and is the number one importer of oil, is said to be the main contributing factor to the fall.

Energy sector had to respond to changes quickly and effectively as the pandemic is set to continue over the coming months. Even as oil prices started to recover and reached $40/barrel, Royal Dutch Shell cut its dividend for the first time since the World War 2 while BP announced to sack 10,000 people. Other followed suit and incorporated a cash-conservation policy or slashed tens of billions of dollars off the value of their assets, recognising that oil prices may not establish at the prior highs.

Why then, despite these market odds, Total decided to continue with its Mozambique LNG (Liquified Natural Gas) investment project while a very similar decision has been put off by ExxonMobil?

The explanation possibly comes down to one key but simple factor – time. Total reached its final investment decision (FID) in mid-2019, when nobody was really concerned about some small-scale infectious disease which slowly spread in one of 33 provinces in China. On the other hand, ExxonMobil, which was seeking to lower costs on the project and whose FID was to be reached in late 2019, had enough time to experience the first signs of financial distress and decided to postpone the final decision until next year.

Total quickly found itself in a very complicated situation. The project includes costly development of the offshore Golfinho and Atum natural gas fields and construction of a liquefaction plant with a capacity of 13.1 million tons per annum, which is not a cheap thing either. The French company could not finance the $20bn investment itself and it needed to find external financing in a very difficult macroeconomic circumstance.  

The only reasonable card it could possibly play to convince overcautious investors to help in the project’s financing was to quote the optimistic predictions about rising demand for LNG. It is estimated that after a 4% drop in 2020, natural gas demand is expected to progressively recover in 2021 and to grow 1.5% per annum to 2025. The primary reason for such increase is the transition to a lower-carbon energy system in Europe and the ever-increasing consumption of Asian societies. Another strong argument which could be used during the talks is the competitive advantage the project would get over other similar investments in the region asa result of earlier opening of its gas facilities.

Whatever convinced the to-be investors, Total’s executives and Société Générale managers, who worked on the project’s financing, had to be very persuasive and effective in their negotiations. On 16th July Total confirmed signing $14.9bn senior debt financing and securing several buyers for its LNG. “The financing would be phenomenal in a normal market let alone one that has been ravaged by a pandemic and an oil price crash,” said Katan Hirachand, managing director for energy finance at Société Générale.

The government of Mozambique expects gas development to generate billions of dollars in revenue and raise the country to middle income status by the mid-2030s. But at what price?

The Cabo Delgado province of Mozambique where the onshore LNG facility will be located is facing an insurgency in extremist Islamic activity. More than 1,300 people have been killed since fighting began in late 2017 and the prolonging lack of development plans for the region even worsened the security challenges. On top of that, families have been displaced while watching well paid jobs goto the urban elite or foreigners. Two months ago, even Total’s contractors were targeted by militants. Unsurprisingly, Total’s spokespersons deny any allegations that the investment could spark any additional aggression due to territorial fightings between displaced tribes and reaffirm that the company workers are safe and well-protected onsite.

Clearly, the successful financing deal reached by Total is a truly magnificent achievement taking into consideration the current macroeconomic circumstances. The project can be considered as an important milestone for global LNG supply chain development while advanced plants and drilling sites can boost regional economy too. The remaining challenge for Total is to work on the project’s smooth and efficient execution while trying to stop local military aggression. The very weak spot of the investment is its heavy reliance on the optimistic LNG demand forecasts which, as the coronavirus continues its global spread, may not come true so quickly.