NextDecade Stock: No more delays on Rio Grande (NASDAQ: NEXT)
Anyone who follows the liquefied natural gas (“LNG”) markets knows that buyers are making money right now. Many. The arbitrage spreads between the US and Europe and Asia are incredibly wide, and most importantly, it won’t just be a winter phenomenon: prices in Europe and Asia are $ 30.00 or more per mmbtu for the whole of 2022. With current all-inclusive costs of around $ 9.00 per mmbtu in Europe and $ 10.00 per mmbtu in Asia, LNG traders are tripling their money with every cargo.
Given this market reality, why has NextDecade (NEXT) postponed for another six months the final investment decision on its Rio Grande LNG facility, pushing the date back to the end of this year? Although it will take years for construction to be completed, one would think that an additional 11.0 mmtpa LNG capacity would be highly desirable and sought after in this type of market. What the hell is going on with Rio Grande, and is it a NextDecade issue or symptomatic of the entire industry?
Rio Grande headache
Rio Grande LNG is considered to be one of the pending candidates most likely to see eventual completion. Located on nearly one thousand acres in Brownsville, Texas, NextDecade plans to combine 11.0 mmtpa of liquefaction capacity at the site. It will feature an adjacent Carbon Capture and Storage (“CCUS”) project, powered by Responsible Source Gas (“RSG”) and powered by net zero electricity. Management is touting it as the ‘greenest LNG in the world’, and while it may seem filled with new energy buzzwords, the project is expected to generate significant interest from European utility customers. in particular, who will need to balance ESG compliance with meeting customers’ electricity needs in a price-conscious manner.
All of its permits are in the possession of both regulators and state agencies. He has a construction contract with Bechtel, the go-to counterparty for building LNG terminals, to lead the way every time he pulls the trigger. Yet in its recent investor presentation, NextDecade decided to postpone its final investment decision (“FID”) in Rio Grande LNG until the second half of 2022. This is another delay in a series of postponements of the potential installation, putting FID about two years behind the original schedule.
* Source: NextDecade, January 2022 investor presentation, slide 7
In order to raise the necessary capital to start innovating, LNG terminals like Rio Grande must enter into sale and purchase agreements (“PPS”). Even reduced to a two-train development (NextDecade envisions up to 27.0 mmtpa of capacity with five forward trains), the price is likely to settle in the $ 8.0 billion range. Senior secured lenders will be willing to finance 65.0-80.0% of that, but they’ll want to have SPAs with top-tier counterparties in place so they know the cash flow will be there.
Most potential LNG terminals saw SPA deals evaporate in 2019 and 2020. As LNG prices plunged and worsening demand led to cargo cancellations, it was not surprising to find a reluctance to enter into longer-term agreements with new terminals – even if this new offering would be years away. But what strikes me as striking is that, even after the LNG price spike in 2021, Rio Grande hasn’t made any new deals. In fact, the only SPA on the books is a twenty year deal with Shell (RDS.A) (RDS.B) for 2.0 mmtpa. In order to start this project, it needs to have 9.0 mmtpa in total under similar agreements – if not all of 11.0 mmtpa of initial capacity.
Why did NextDecade struggle with more contracts? It assumes lower fixed liquefaction costs in its calculations of future profits than those underlying the Cheniere (LNG) facilities ($ 2.50 per mmbtu) and has declared its willingness to be flexible, potentially indexing its agreements. on international gas references like JKM or TTF, or even by following standards in Asia and using Brent. This would allow full destination flexibility for the buyer, and given its carbon mitigation and contracts with RSG, Rio Grande gas would be viewed favorably for buyers where the ESG narrative is important. He apparently checks all the boxes.
Give and take
This is unfortunately not unusual. There is a dance that must be done as a developer of LNG. These companies have some leeway over liquefaction costs, but the terms cannot be so low that they do not support the creditors who will finance the construction. LNG buyers have been badly burned in recent years, losing money or barely reaching profitability for the most part. 2021 has been a welcome reprieve, but in order to agree to purchase new cargo, these counterparties continue to demand shorter contract terms and risk sharing.
At the same time, creditors who underwrite developments worth billions of dollars want the opposite: long-term fixed-rate contracts. A high degree of cash flow visibility brings comfort, otherwise creditors will push for higher interest rates, funding less of the total cost of construction, or simply opt out altogether. If the developer gives too much, they could end up losing out on this three-way deal, with all economic value being taken away by their customers or creditors.
For now, it appears that finding long-term ASP remains a challenge. Tellurian (TELL), although many (myself included) have concerns about how much volatility these contracts will provide down the line. Until LNG traders / traders change their mind, the outlook for LNG supply and demand remains tight, particularly in the later parts of this decade as demand continues to grow. It is often said that the cure for high prices is high prices, but for now that backdrop seems unlikely to change.