After proving to be a thorn in the side of the planned merger between Japanese refiners Idemitsu and Showa Shell Sekiyu since 2016, the family of Idemitsu’s founder Sazo Idemitsu has now acquiesced to the wishes of Idemitsu’s board and dropped its opposition to the merger. This paves the way for the latest merger in the Japanese refining business, as the industry – once a global titan – prepares for a future of shrinking domestic demand.
The merger was first announced in 2016, the first planned merger in Japanese refining since an initial wave of consolidation in the 2000s. But opposition from the Idemitsu founding family – which hold a considerable stake in the company – meant that the merger remains uncompleted, while the Nippon Oil and Mitsubishi Oil and the JX Holdings and TonenGeneral mergers sped ahead, even though they were announced later. The completion of the Idemitsu-Showa Shell Sekiyu merger will slash the number of Japanese refiners from six to three, a trend backed by the Japanese government, which sees consolidation as the only way forward to optimise the industry. Although Idemitsu – Japan’s second-largest refiner – claims that no refineries will be closed post-merger, it seems inevitable; Japanese fuel demand peaked in the late 2000s and its decline is accelerating. From a peak of 4.6 mmb/d in refining capacity, consolidation means that Japanese capacity could halve to 2.3 mmb/d by 2030 – mainly by shuttering the country’s aging simple refineries. While this will increase Japan’s fuel product import bill, the Japanese government seems fine with this, given that the downstream companies will merely be swapping crude imports for product imports.
But back to the Idemitsu-Showa Shell Sekiyu merger. There were legitimate concerns from the Idemitsu family regarding the logic of the merger. They argued that cultural differences between the management of both companies and geopolitical factors – Idemitsu is a major importer of Iranian crude, while Saudi Aramco owns part of Showa Shell – were insurmountable. With the US now re-imposing sanctions on Iran crude, the latter has once again come into prominence. But even when Iranian crude returned to the world market in 2016, the Idemitsu family went as far as to increase its stake in the firm – in response to a strategic share dilution designed to reduce their veto power – to derail the merger. But the show went on despite their opposition – Idemitsu bought a 33% stake in Showa Shell in 2016, and since 2017 deepened ties through an exchange of directors and combining operations. A merger was always inevitable, and now even the Idemitsu clan has seen that. Even the family’s most strident voice, Shosuke Idemitsu, has fallen, agreeing on the condition that the new company ‘respect the values and principles that have guided Idemitsu since 1917.’ Two seats for the family on the board of the combined company have also been demanded.
The new merged company could be formed as early as the end of 2018. Since both firms are operating on a level just short of a full-merger, it seems almost a formality. But it is necessary. The JX-TonenGeneral merger was completed last April, now the country’s dominant player. Idemitsu-Showa Shell may form 30% of the domestic fuels market, but that is 30% of a shrinking market. As its rivals speed ahead, Idemitsu-Showa Shell can now begin to catch up.
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Headline crude prices for the week beginning 9 September 2019 – Brent: US$61/b; WTI: US$56/b
Headlines of the week
Detailed market research and continuous tracking of market developments—as well as deep, on-the-ground expertise across the globe—informs our outlook on global gas and liquefied natural gas (LNG). We forecast gas demand and then use our infrastructure and contract models to forecast supply-and-demand balances, corresponding gas flows, and pricing implications to 2035.Executive summary
The past year saw the natural-gas market grow at its fastest rate in almost a decade, supported by booming domestic markets in China and the United States and an expanding global gas trade to serve Asian markets. While the pace of growth is set to slow, gas remains the fastest-growing fossil fuel and the only fossil fuel expected to grow beyond 2035.Global gas: Demand expected to grow 0.9 percent per annum to 2035
While we expect coal demand to peak before 2025 and oil demand to peak around 2033, gas demand will continue to grow until 2035, albeit at a slower rate than seen previously. The power-generation and industrial sectors in Asia and North America and the residential and commercial sectors in Southeast Asia, including China, will drive the expected gas-demand growth. Strong growth from these regions will more than offset the demand declines from the mature gas markets of Europe and Northeast Asia.
Gas supply to meet this demand will come mainly from Africa, China, Russia, and the shale-gas-rich United States. China will double its conventional gas production from 2018 to 2035. Gas production in Europe will decline rapidly.LNG: Demand expected to grow 3.6 percent per annum to 2035, with market rebalancing expected in 2027–28
We expect LNG demand to outpace overall gas demand as Asian markets rely on more distant supplies, Europe increases its gas-import dependence, and US producers seek overseas markets for their gas (both pipe and LNG). China will be a major driver of LNG-demand growth, as its domestic supply and pipeline flows will be insufficient to meet rising demand. Similarly, Bangladesh, Pakistan, and South Asia will rely on LNG to meet the growing demand to replace declining domestic supplies. We also expect Europe to increase LNG imports to help offset declining domestic supply.
Demand growth by the middle of next decade should balance the excess LNG capacity in the current market and planned capacity additions. We expect that further capacity growth of around 250 billion cubic meters will be necessary to meet demand to 2035.
With growing shale-gas production in the United States, the country is in a position to join Australia and Qatar as a top global LNG exporter. A number of competing US projects represent the long-run marginal LNG-supply capacity.Key themes uncovered
Over the course of our analysis, we uncovered five key themes to watch for in the global gas market:
Challenges in a growing market
Gas looks the best bet of fossil fuels through the energy transition. Coal demand has already peaked while oil has a decade or so of slowing growth before electric vehicles start to make real inroads in transportation. Gas, blessed with lower carbon intensity and ample resource, is set for steady growth through 2040 on our base case projections.
LNG is surfing that wave. The LNG market will more than double in size to over 1000 bcm by 2040, a growth rate eclipsed only by renewables. A niche market not long ago, shipped LNG volumes will exceed global pipeline exports within six years.The bullish prospects will buoy spirits as industry leaders meet at Gastech, LNG’s annual gathering – held, appropriately and for the first time, in Houston – September 17-19.
Investors are scrambling to grab a piece of the action. We are witnessing a supply boom the scale of which the industry has never experienced before. Around US$240 billion will be spent between 2019 and 2025 on greenfield and brownfield LNG supply projects, backfill and finishing construction for those already underway.50% to be added to global supply
In total, these projects will bring another 182 mmtpa to market, adding 50% to global supply. Over 100 mmtpa is from the US alone, most of the rest from Qatar, Russia, Canada, and Mozambique. Still, more capital will be needed to meet demand growth beyond the mid-2020s. But the rapid growth also presents major challenges for sellers and buyers to adapt to changes in the market.
There is a risk of bottlenecks as this new supply arrives on the market. The industry will have to balance sizeable waves of fresh sales volumes with demand growing in fits and starts and across an array of disparate marketplaces – some mature, many fledglings, a good few in between.
India has built three new re-gas terminals, but imports are actually down in 2019. The pipeline network to get the gas to regional consumers has yet to be completed. Pakistan has a gas distribution network serving its northern industrial centres. But the main LNG import terminals are in the south of the country, and the commitment to invest in additional transmission lines taking gas north is fraught with political uncertainty.
China is still wrestling with third-party access and regulation of the pipeline business that is PetroChina’s core asset. Any delay could dull the growth rate in Asia’s LNG hotspot. Europe is at the early stages of replacing its rapidly depleting sources of indigenous piped gas with huge volumes of LNG imports delivered to the coast. Will Europe’s gas market adapt seamlessly to a growing reliance on LNG – especially when tested at extreme winter peaks? Time will tell.
The point-to-point business model that has served sellers (and buyers) so well over the last 60 years will be tested by market access and other factors. Buyers facing mounting competition in their domestic market will increasingly demand flexibility on volume and price, and contracts that are diverse in duration and indexation. These traditional suppliers risk leaving value, perhaps a lot of value, on the table.
In the future, sellers need to be more sophisticated. The full toolkit will have a portfolio of LNG, a mixture of equity and third-party contracted gas; a trading capability to optimise on volume and price; and the requisite logistics – access to physical capacity of ships and re-gas terminals to shift LNG to where it’s wanted. Enlightened producers have begun to move to an integrated model, better equipped to meet these demands and capture value through the chain. Pure traders will muscle in too.
Some integrated players will think big picture, LNG becoming central to an energy transition strategy. As Big Oil morphs into Big Energy, LNG will sit alongside a renewables and gas-fired power generation portfolio feeding all the way through to gas and electricity customers.
LNG trumps pipe exports...
...as the big suppliers crank up volumes