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. Last Updated: 07/27/2016

Hurdles Loom in LNG Race

Gazprom must move faster with a major Arctic liquefied natural gas project if it is not to miss a narrow window of opportunity to supply the increasingly competitive U.S. market, analysts say.

Gazprom plans to pick Western partners this year to develop the Shtokman deposit in the Barents Sea and build an LNG terminal to start supplying the United States by 2011.

It also plans a separate LNG plant at Ust-Luga near St. Petersburg on the Baltic Sea, amid what analysts say are attempts to diversify a customer base traditionally oriented toward Europe and enter the flexible and growing LNG market.

"Gazprom see the U.S. market as a commercial opportunity they need to pursue urgently, especially as Europe is looking at a huge potential gas oversupply from various sources," said Jonathan Stern of the Oxford Institute of Energy Studies. "But time is key -- if you are late, you will end up in a huge crowd, all trying to get a toehold in the U.S. market."

Gazprom, like producers around the world, has been lured by sky-high gas prices in the United States, where demand is seen growing by over 26 percent by 2015, while domestic production is seen up by just 9 percent.

LNG meets 3 percent of U.S. gas needs now, but is seen rising to 10 percent by 2010.

But Gazprom will face stiff competition as producers from Trinidad to Qatar and Nigeria are also eyeing the U.S. market and have a head start. Energy companies have petitioned to build 40 to 50 LNG-receiving terminals in North America.

"If you count all potential supplies, there is way too much capacity beyond 2010. So competitive dynamics will be key: timing, underlying economics, leverage in the U.S. market etc," said Frank Harris, LNG specialist at WoodMackenzie consultancy.

Gazprom aims to produce 31 billion cubic meters of gas from Shtokman to supply an LNG plant with an annual capacity of 15 million tons.

Oxford's Stern was doubtful Shtokman would be up and running by 2011 as planned, and said Gazprom should try to get the smaller $1.5-billion Ust-Luga LNG project -- a joint project with Petro-Canada with a capacity of 5 million to 7 million tons per year -- moving first.

"Shtokman will be hugely complicated, legally, commercially and intellectually. There is a production sharing agreement involved," he said. "I somehow do not see it happening before 2014, even with the best will in the world."

But Gazprom has one trump card: Western majors' eagerness to get into Russia. So far it has signed preliminary agreements on Shtokman with ChevronTexaco, ConocoPhillips, ExxonMobil, Statoil and Norsk Hydro. "Gazprom is exploiting international oil companies' desire to move into Russia," Harris said.

A key factor is that many of these firms are involved in projects for re-gasification terminals on the U.S. coast and are keen to find competitively-priced LNG volumes. Planned re-gasification capacity is even greater than contracted LNG, Harris said.

Analysts say that while Shtokman production costs will be high, shipping costs to the U.S. East Coast will be lower than from the Middle East. Costs at the huge project will also gradually fall as future trains come on line beyond 2015.

"For Gazprom, Shtokman is a strategic as well as commercial move -- a good opportunity to get an experience of LNG," said Gundi Royle, adviser to Gazprom-affiliated investment firm Horizon. "It is about product diversification as well as regional diversification."

Gazprom currently supplies over 30 percent of Europe's gas needs, and while volumes will slowly grow, it faces stiff competition from suppliers such as Algeria, Qatar, Iran and Libya, which are touting pipeline gas as well as LNG.

Analysts say LNG, costs for which have fallen 40 percent in the past 15 years, could soon start to affect the dominance of pipelines in the EU market, especially as Russian pipeline gas, priced under long-term deals, is still relatively expensive.

And although Europe's call on Russia's gas is rising, demand growth will be slower than in Asia and the United States.

"As Europe tries to diversify its supply sources, Gazprom is also trying to diversify its customer base," said Sergei Glaser of Vostok Nafta, an investment company with shares in Gazprom.