Coal seam gas was one of the market’s hottest sectors at the beginning of last year, went cold in the second half and is once again showing signs of life following Shell and PetroChina’s bid for Arrow Energy.
That takeover offer and a deal last month between the Origin/ConocoPhillips joint venture and BG Group to supply gas to each other has shone a light on a scramble to secure gas reserves. While the majors are starting to look fully priced, recent moves have boosted the share prices of smaller players who had been written off by skeptics who said there was no market for the gas and they would never have the funds to get a project up.
EL&C Baillieu analyst Ivor Ries says the major companies with projects to process coal seam gas into liquefied natural gas (LNG) for export to Asia are negotiating to buy gas from smaller players so they can spread their risk.
Molopo (MPO) and Eastern Star Gas (ESG) are Ries’ picks among the smaller players but he says there are several others with the potential to lever themselves into LNG stgelopments as minor suppliers. Ries describes them as “tail gaters” because they will hitch a ride with the majors who are building LNG plants at Gladstone
He says this might be the opportunity for companies such as Bow Energy (BOW), Victoria Petroleum, Blue Energy (BLU), Icon Energy (ICN), Metgasco (MEL), Westside (WCL), Comet Ridge (COI) and Eastern Corporation (ECU.)
The majors include Origin, which Ries says is starting to look fully priced, Santos/Petronas of Malaysia and Britain’s BG.
RBS Morgans senior oil analyst Nik Burns is recommending Eastern Star (ESG) and Victoria Petroleum (VPE) to clients who intend to sell their Arrow shares and switch into another CSG stock.
Burns says Eastern Star has a large resource base in New South Wales, having last month announced an increase in 2P (proven and probable) reserves that the company said will give it economies of scale.
“They have recently demonstrated that they can extract CSG from their coals at a commercial flow rate,” he adds.
CSG companies are stgeloping their gas for electricity generation in NSW and Queensland but its greatest potential is forecast to be for export once it is transformed into LNG. Burns sounds a note of caution that the industry is in early stages of stgelopment and companies are still proving how viable and economic it will be to extract their gas.
He says that the “all boats rise on a rising tide” maxim has held true for CSG following announcement of the Arrow bid, and not all stocks deserve the increase.
“Some have more intrinsic value than overs and the potential also to become takeover targets themselves in time.”
Burns says that in recommending NSW-focused Eastern Star, he is looking at local demand and supply as well as export potential. NSW produces less than 10% of its gas but Queensland has excess supply.
“If you don’t have existing contracts for your gas in Queensland, you won’t be in a position to sell for the next three or four years unless you build your own power station,” says Burns, who believes the Queensland market looks particularly tough for smaller CSG companies.
He likes Victoria Petroleum because it offers a combination of oil and gas. The company’s oil production gives it near-term revenue and it is in a joint venture with a BG Group company on its two CSG permits. He said it would be logical for BG to source some of the gas for its proposed LNG plant in Queensland from VPE.
BG holds just over 11 % of Victoria Petroleum but did not take up its share of a capital raising last year so is not thought likely – for now at least – to be interested in a bid for the junior.
Ivor Ries says Gladstone can probably support five to seven LNG trains, or processing plants, but one plant might operate two to four trains, so not every one of the five projects that has been announced is expected to proceed. But as the stgelopment work progresses, the majors who will build LNG plants are looking to diversify their sources of supply. A major might supply 70% of a plant’s requirements but aim to spread its risk by taking the remainder from smaller players, and banks providing the project finance will also feel more comfortable if gas is coming from six fields instead of four.
“This provides the opportunity for the smaller guys who would never have the money to do it themselves in the time frame,” says Ries.