Liquified Natural Gas: Two Large-Cap Winners on the Horizon

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With demand rising at 5% to 2020 (versus oil's +1.2% growth), Liquified Natural Gas (LNG) is the world's fastest growing energy commodity. But the sector is changing fast. Multiple new supply sources and the growing incremental demand are shaping the market. Besides, thanks to the shale revolution that is going on in the US, supply is poised to become more global, bringing regional prices closer together (nowadays, price spreads are huge: while LNG's price in the US is below $5 per metric cubic feet, in Europe prices can go as high as $10). Let's look at two companies that might benefit enormously from the growth and development of the LNG markets.

An American champion

Chevron (NYSE: CVX) is not only poised to benefit from the growth in the LNG market, the company is also is a top performer. Chevron's strong dividend growth, share buybacks, solid balance sheet (with $5 billion more cash than debt), and high upstream margins make it a great long-term holding for any portfolio. Despite having reduced dry gas drilling in North America to minimal amounts, Chevron is growing its natural gas production by 7% year-over-year (yoy) focusing on international projects. Among its main projects and dealings related to natural gas and LNG I must specially mention:

(1) The long-term sales and purchase agreement with Chubu Electric on 1 million metric tons per annum (MTPA) of LNG from the Wheatstone project in Australia.

(3) Chevron's Angola LNG project, which should contribute an average of 60 million barrels oil equivalent per day (mboed) once the resources are fully developed.

(4) Chevron's agreement with YPF to invest in the Vaca Muerta shale formation in Argentina, which is supposed to be the world's second largest shale-gas reserve in the world. Even if Chevron has not yet started to invest heavily in Vaca Muerta, it is expected to do so as soon as Argentina's government reaches an agreement with Repsol (NASDAQOTH: REPYY.PK). Repsol (which still holds 12% of YPF's shares) is expecting to get as much as $10.5 billion for its former 51% stake in YPF, which was expropriated during April 2012.

Chevron's worldwide production is expected to increase by 1% yoy until 2014 and then begin to grow at 5% as new projects, mainly Australia LNG and West Africa, begin production. Paying a 3.4% dividend yield and trading at 2013 9.6 times P/E, I think Chevron is the best bet among the American oil majors.

One European bet ready to boom on LNG

Royal Dutch Shell (NYSE: RDS-A) is committed to growth. The Anglo-Dutch company has 35% of its capital tied up in new projects. The company is projected to add 700 mboed of new production (20% of last year's production) through 2017-2018. If the objective is fulfilled, Shell will generate $175-$200 billion in total cash flow from 2013 to 2015 compared to its capital spending of $120-$130 billion. The increased cash-flows should allow the company to keep on investing while raising the dividend and buying back shares.

Natural gas is a key component of Shell's growth strategy. According to the company's last quarterly statements, gas production was +3% yoy and +8% sequentially, led by LNG projects. Besides, the company has been working on some key undertakings:

(1) Shell has taken final investment decisions on two new LNG transport projects in North America, which brings its total capacity for transport LNG to 0.75 MTPA. The company is producing LNG on a small scale and selling it to trucks, fleet operators, and to shipping. This is a market that may take several years to develop because of the need for original equipment manufacturers and a distribution network. That said, the potential is huge. In Brazil and China there are already +20,000 trucks and buses running on LNG. If the same were to happen in the US, the potential profits for Shell are poised to be huge.
(2) Through a joint venture with Kinder Morgan, Shell will build an LNG export facility at Elba Island in Georgia.
(3) Shell agreed to acquire Repsol's 7.2 MTPA LNG business, including 4.2 MTPA of equity plant capacity in Latin America. Shell is the world’s leading LNG trader, which will add value to acquired Repsol’s LNG assets with expected annual cash flow of $1 billion. The deal is expected to close during the first quarter of 2014.
Trading at 2013 7.5 times P/E and paying a great 4.85% cash dividend yield, I think Shell is one company to follow not only for its present but also for its bright future.

Foolish conclusion

The two companies named above are two mature oil and gas players trading at very reasonable levels. That said, they are investing heavily in the US and internationally to become leaders in the future LNG world. This is no detail. In the future, the energy landscape will be much more influenced by LNG than it is today. The shale revolution has made gas resources cheaper, making it a key element in tomorrow's world.

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Federico Zaldua has no position in any stocks mentioned. The Motley Fool recommends Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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