Anadarko Corp (NYSE:APC) and Eni SpA of Italy have entered an agreement to jointly construct a liquefied natural gas (LNG) plant in Mozambique as part of a plan to jointly develop their recent major gas discoveries off the East African country’s coast. The two companies had independently discovered gas reserves in the Rovuma Basin. While Anadarko is the operator of Offshore Area 1, EnI is the operator of Offshore Area 4 in the same basin.
According to the agreement, the two operators will conduct separate, yet coordinated, offshore development activities while jointly planning and constructing common onshore liquefaction facilities in the form of an LNG plant. ((Anadarko Announces Advancement of Mozambique LNG Project, Yahoo Finance))
The agreement has far-reaching implications beyond just the obvious. While it will reduce development costs for each company and distribute the risk burden, combining resources will allow them to attract larger players to whom they can sell a part of their stake and reduce development and financing costs. Anadarko and Eni stand to reap the benefits of having access to ready markets in Asia willing to pay high prices while reducing their risks and costs considerably.
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How Important Are Mozambique’s Gas Reserves?
Many large natural gas discoveries have been made since late 2011 off the coasts of Mozambique, Tanzania, and most recently Kenya. So far, some 110 trillion cubic feet of gas has been discovered in the waters of Mozambique and Tanzania, which is equivalent to nearly all of Iraq’s gas reserves. These discoveries have transformed East Africa into one of the world’s most promising energy provinces, so much so that the region may emerge as a strong competitor to Qatar and Australia in the battle to capture key export markets in Asia. However, before that can happen, a huge challenge is to build facilities on land to turn the reserves into liquefied natural gas, which can then be shipped to markets. ((Anadarko And Eni SpA In Talks On Mozambique LNG Plant, Trefis))
Anadarko is the operator of Offshore Area 1 where these reserves are located, and holds a 36.5% share of the fields. Its current partners are Mitsui of Japan with a 20% stake, Bharat Petroleum Corporation Limited and Videocon (both of India, with 10% stake each) and Cove Energy of Britain (8.5%). The Mozambican government is represented by its national oil company, Empresa Nacional de Hidrocarbonetos, which holds a 15% stake in the fields. The significance of the region’s reserves was further underlined in the battle fought between Royal Dutch Shell and Thailand’s PTT Exploration and Production for the control of Cove Energy. PTT eventually won and snapped up Cove for $1.9 billion. ((RPT-UPDATE 5-Thailand’s PTT gets Cove Energy after Shell drops bid, Reuters)) According to the Financial Times, a total of 25 companies were in Cove’s data room at one point, taking a close look at its assets. These ranged from western majors to state-owned Asian energy groups. 
Why Do Anadarko And EnI Want To Collaborate?
According to the well-known energy consultancy Wood Mackenzie, there is enough gas in the region for as many as 20 LNG plants, producing about 100 million tonnes per year. EnI itself had planned on building 5 such plants, each costing around $7 billion. It had estimated the cost of the whole project at $50 billion. With Anadarko operating in the same area, collaboration in building of LNG plants was always on the cards. However, the two companies originally wanted to develop their resources independently. The Mozambican government was apparently not too keen on such an approach as it felt that the duplication of efforts would lead to higher overall costs of development. Hence, it asked the two sides to “unitize” or pool their resources. The latest agreement between the two effectively achieves that purpose. 
More Players Will Have An Opportunity To Benefit
According to analysts, once unitization is complete, Anadarko and EnI will look to reduce their stakes. Sure enough, Anadarko announced last month that it is considering entering into a joint venture for its Mozambique project in order to monetize up to one third of its interests in the region. The reasons for this could be many. ((Anadarko Considering Joint Venture in Mozambique, WSJ))
Given that Anadarko is a high-debt company keen to reduce its debt obligations, it makes sense for the company to monetize the potential of its reserves. The money raised could be used for the twin purposes of financing further project development and paying off debt. The company had a long-term debt of approximately $14 billion on its balance sheet on September 30, 2012. 
Also, considering the scale of resources and lack of experience and skill within the Mozambican government in this area, times ahead are sure to be challenging. A number of legal, bureaucratic and financial hurdles will have to be overcome in close coordination with the government. This raises the risk profile of the project and financing from external sources will therefore be expensive unless Anadarko and EnI can bring in players like Shell, BP, Total, ExxonMobil or Chevron who have considerable experience and expertise in this area. A higher number and quality of project partners will ease the capital burden of individual players, reduce project risk and thus improve chances of cheaper financing.
But why would other companies be keen to enter?
The demand for gas in Asia is expected to shoot up going forward, especially in India and China. These countries would also likely be keen to have access to gas sources which are free of geopolitical risk. The prospect of an Israeli strike against Iran might make them uncomfortable since the Strait of Hormuz may no longer be accessible to LNG tankers, thus disrupting supplies. The Mozambican gas should thus find ready buyers. Also, companies in potential consuming countries like Japan might be keen to acquire strategic stakes in Anadarko and EnI for the purpose of locking in supplies. Some of these companies like Sumitomo and Mitsubishi have already been investing in shale plays in the U.S. and Canada.
It is an advantageous situation for the gas companies on the pricing front as well. Natural gas prices in Asia tend to be higher than in the U.S. because the pricing mechanism is different. Gas markets in Asia benchmark gas prices to crude oil prices. Since oil prices are expected to be high in the foreseeable future, gas prices should be high as well. This will boost Anadarko’s margins significantly. 
We have a price estimate for Anadarko of $81 after the third quarter earnings results.Notes: