APS Conference: Possible Buyer Project Structures.

The following discussion highlights the different project structures available for LNG Import buyers and some of the pros and cons of each structure looked at from the perspective of import terminal investors, LNG suppliers and financiers.

(1)LNG import terminal as contractor: the tolling structure. The main advantage to the LNG import terminal project of utilising tolling agreements which link the LNG supplier directly to its end-user customers is the ability to minimise the risk of being a middleman affected by default upstream and downstream. A variation on this is for end-user gas customers to contract directly with the LNG supplier, taking title to LNG at the terminal delivery point, with the LNG terminal merely acting as a contractor who provides LNG storage, regasification and send-out services to the LNG buyers.

(2)LNG Import Project Company as LNG Purchaser and Gas Seller. The main difficulty with this structure is that the Project Company providing a relatively routine and low risk service, which would normally attract a commensurately moderate rate of return, is the middleman and takes risks associated with both LNG supply and regasified LNG purchaser default.

Banks lending to such a project on a limited-recourse basis may be wary even if the contracts are back-to-back. Identity and creditworthiness of the Project Company shareholders is important as sellers may be more comfortable contracting with a Project Company which has as one of its participants an established multinational with LNG experience, particularly in respect of enforcing take-or-pay obligations.

Participation of local national oil company and/or SEB may be seen as beneficial by supplier. However, project company creditworthiness may require support.

(3)Integrated Project Structure: LNG Import and IPP. In this structure, the LNG Co. and the IPP Co. main/sole gas offtaker are integrated into a single corporate entity which buys LNG, builds and operates the LNG terminal, the gas transmission pipeline and the associated power plant and sells electricity (the Dabhol Power Company Structure). The main difficulty with this structure is financing.

Large power stations are expensive and limited recourse financing may be required, whereas project sponsors may wish to finance the LNG terminal on a recourse basis. This structure may create economies of scale, but requires large investment and exposure to up and downstream risk.

(4)Intermediate Marketer/Aggregator. In this structure, an international gas/LNG market player creates a marketing subsidiary to purchase LNG which may not be dedicated to specific market(s). Traditional long term LNG SPA's with rigid shipping and cargo destination provisions not appropriate for this type of buyer. Significant investment in and control of flexible non-dedicated shipping capacity required for such a buyer.

Assuming proposed buyer subsidiary entity is not sufficiently creditworthy, seller will not be able to look to specific end-user markets for security, so parent company guarantee of take-or-pay obligations would seem to be essential. If the parent company is not willing to give a full guarantee, seller must determine how much is enough. Aggregator/middle man structure adds to the complexity of the contractual chain and risk allocation.

Aggregators bidding in a tender situation as the LNG supplier are in a difficult situation as they will generally not be able to show that they have a firm LNG supply source. LNG producers are probably unwilling to hold volumes available to such an entity beyond a short period. If LNG destination is left flexible, there will be difficult issues to resolve in SPA negotiations re shipping capacity, scheduling and buyer force majeure relief.

Credit Enhancement/Payment Security Issues * Creditworthy buyers - how much is enough? * Selling to Project Company buyers. * End-user gas customer receivables trust/escrow account arrangements.

Financially strong major utility buyers of the type that underpinned much of the Far East LNG trade to date will not be the norm in the future. Companies contemplating an investment in an LNG import facility increasingly wish to limit their exposure (including the large take or pay obligations found in long term LNG SPA's) by creating Special Purpose Vehicles.

Sellers need to evaluate Project Companies' creditworthiness by undertaking an intensive due diligence analysis of underlying contractual arrangements and of the creditworthiness of ultimate gas customers to whom the Project Company will sell the regasified LNG.

To address concerns that the Project Company might not place first priority in allocating income from gas or power sales to the payment of LNG suppliers, trust/escrow account arrangements which afford priority in the Project Company's revenue stream to payment of fuel costs can help to mitigate the LNG supplier's exposure to SPA non-payment by the Project Company. However, these arrangements do not mitigate against the risk that Project Company's gas/electricity customers can't or don't pay the Project Company.

A complex mechanism was put into place for the benefit of the LNG suppliers and the transporter in the Dabhol project. Payments for electricity from groups of SEB customers were to be deposited into collecting banks for transfer to a trust account managed by a trustee, which funds could be "trapped" and transferred to a trust account set up for the benefit of the LNG contractors in the event of a DPC payment default or other "drawstop" event.

The system is however not fool-proof, as the SEB may, as was the case with DPC, refuse to put into place the customer collection arrangements.