3 rd International Symposium on Natural Gas INGAS 2009

1. US Natural Gas Supply-Demand Security: Historical Trends and Future Prospects with a Global Perspective 3rd International Symposium on Natural Gas INGAS 2009

2. United States Natural Gas Demand

3. Electric Sector Consumption • Largest consumer of natural gas though 2008 consumption has reduced by 2.6% • Decreased consumption in 2008 was primarily due to recession leading to consumers cutting demand • Demand in electric sector actually gained momentum from 2000 due to increased investments on gas fired power plants Source: Ventyx Database for net capacity additions • Hydro dominated regions in U.S. like Oregon and Washington are switching from hydro to gas generation in order to maintain seasonal reliability • High Oil Prices in 2008 made it economical for dual fired plants to switch to natural gas from oil

4. Industrial Consumption • From 1997 to 2007, industrial gas consumption fell by an average of 2.4 percent per year • 2008 consumption was almost constant on annual basis though the year had a good start in consumption • The decline over the years is mainly attributed to two main factors: • Shift towards less energy intensive industries resulting from the introduction of new capital equipment • Increased gas prices provides an incentive to cut down operations and rather sell contracted gas to a higher bidder to gain from their hedged position • Though impact of above factors was slightly moderated by marginal increase in demand due to increased export of manufactured goods

5. Residential & Commercial Consumption • Residential demand just grew by 3 percent in 2008 as compared to a significant increase of 8 percent in 2007 • The mild growth in 2008 in spite of colder weather is due to the fact that worst of the snowstorms and prolonged cold had hit north-eastern states which depends upon oil for heating • The commercial sector consumption has been almost static and displays a seasonal variation in demand with 42 percent of annual consumption occurring during winters • Conversion of automotive vehicles use natural gas Source: Monthly Natural Gas Consumption by End Use, EIA; heating degree-days data from National Oceanic and Atmospheric Administration

6. U.S. natural gas proved reserve additions 2007 World natural gas reserves US Natural Gas Supply • Dry production from unconventional resources has been the biggest supplier since last year • Technology improvement has lead to extension from existing gas fields • According to EIA, the global estimates of proven reserves of natural gas are 70 times the size of current world annual consumption • But, Natural gas reserves are not concentrated along with United states

7. U.S. monthly well head gas prices Source: U.S. Monthly well head gas prices, EIA Natural Gas Industry follows a Business Cycle Necessary attributes for a Business Cycle are: • Relative Inelastic demand and supply • Variable Cash Flows • A lag or delay in response • Untimely investment (Overinvestment/Underinvestment)

8. Relative Inelastic demand and supply • Supply relatively inelastic to consumption change results in sustained high/low gas prices • Demand also exhibits an inelastic nature as a consequence of which supplies maybe be in abundance or in scarcity, thus varying the natural gas prices widely • Neither supply nor demand for natural gas is completely inelastic • Any adjustment in price results in a new response that might take time to manifest. • But the responsiveness of supply and demand ultimately depends on the cost of implementing a specific supply or consumption response

9. Variable Producer Cash Flows • A sustained marginal increase in price elicits a marginal increase in production • High gas prices results in hundreds of extra rigs drill and thousands of additional wells. • A situation of excess supply is created as new production begins which causes a fall in price • Reduced price brings a disincentive to investment in exploratory drillingich leads to a period of stable supply, setting the stage for a rising capacity utilization levels, thereby tightening market balance as demand increases. • Midst low investment scenario and high capacity utilization levels, some existing wells may run out and if not replaced may result in production decline, thus again increasing the gas prices.

10. U.S. natural gas wellhead prices and rigs count Source: Monthly U.S. well head gas prices, EIA; Rig Count Data, Baker Hughes A lag in response results in untimely investment • Lag between the original increase in price and the eventual increase in production is a key problem associated with the exploration and production activity • Producers want assurance that wellhead prices will be high for long enough to justify new investment • This brings in a tendency in producers to defer drilling investments until they are convinced that the higher prices do not represent a short-lived price spike. • So additional gas generally becomes available, late in the cycle, when demand might already be falling.

11. U.S. monthly well head gas prices Source: U.S. Monthly well head gas prices, EIA Recent cycle in Natural Gas Industry • High natural gas prices in 2006-2008 spurred the investment activities that increased the supply levels substantially • Increase in production came especially from unconventional drilling as high natural gas prices made the production economics feasible for the necessary technologies to be implemented.

12. Economics drive the supply • More than two-thirds of the increase has come from Texas where high prices have spurred producers to invest heavily in bringing on new wells in technically difficult and expensive areas. • Geologists have known about the reservoir for decades, but only the run up in prices in last few years has made it economic to extract gas in significant quantities. • Efforts were also underway in technology improvement leading to increased production from existing reserves, therefore realizing their full potential.

13. Imports play a crucial year • Last few years a major expansion of US LNG import terminal capacity took place as a pre-emptive measure to fill in the expected tightened supply demand from imported LNG • However increased demand from other parts of the world left most of these terminals underutilized • This happened primarily as other importing countries offered high margins as compared to United States

14. Is the Industry at the lowest point of cycle…………. • The later half of 2008 experienced an economic downturn and the demand on a worldwide level was pulled back • Simultaneously, Supply volumes have been pushed up by excessive investment and discovery of vast new quantities of gas in tight rocks (shale) resulting a natural gas glut. • The result has been a near 62 percent decline in gas prices of February 2009 since July 2008. Part of the problem stems from the lagged effects of the earlier period of high prices in 2006-2008, which stimulated a surge in exploration and production activity. • So finally, an effort to squeeze more natural gas from aging U.S. fields has ended with the collapse of prices and plunging demand. U.S. investors in natural gas industry now have almost gone into "bear" mode, reducing the drilling activities substantially.

15. Timing is everything in commodity markets • Natural gas industry witnessed an amazing transformation during the past year • U.S. natural gas prices have sunk to six-year lows as a late wave of supply increases coincide with a sharp downturn in industrial demand • Prices have already fallen so far, the market must by definition be close to the low point of the cycle • New production of unconventional shale gas primarily influenced the market. • Even an unusually cold winter and strong heating demand from residential customers has not been enough to mask the downturn in consumption. • There is an unprecedented increase in global supply and a dramatic drop in demand for LNG through out the world, especially in Asia, resulting in excess LNG. The European market has also absorbed about the entire LNG surplus it can handle.

16. Price volatility will stay the norm • International markets strongly impact the level of shale gas production in North America. • U.S. is the only market that is liquid enough, large enough and accessible enough to absorb the oversupply of LNG during the global ailing economy is the US market • But exactly how much LNG comes to US shores, however, will depend not only on excess volumes globally, but also on the relative strength of US prices. • It seems competition between shale gas, which has out-produced most expectations and LNG imports, will not be a factor in the short term.

17. Underlying fundamentals still exist • Natural Gas has to be considered in the context of overall energy • According to EIA, global energy demand is expected to increase by 50 percent by 2030. • This is a time of incredible energy challenges. • Due to the alternative fuel shortages and carbon emission constraints, it is just a matter of time when the excess supply will be absorbed in the electricity production • As of today, North American gas production is no longer opportunity constrained. • There is surplus production capacity with LNG from overseas ready to rush towards US terminals. Though the economic bear hug of the recession could be one of the factors that will limit the pace at which North American supply grows.

18. It seems that market does not react, but overreacts • Due to low gas prices, Gas companies are cutting back on investments. • They will be unable to respond quickly to a future economic recovery. • If the slump lasted around two years, it could then take 18 to 24 months for companies to reassemble rig crews. • Additionally, the new LNG capacity to come online in Qatar and Yemen are also facing some delays. That means a glut could rapidly turn to scarcity, sending energy prices soaring again. • Credit problems and pricing uncertainty forced the changes, and the LNG industry will likely continue to evolve. It's clear the recession is deep, but it's too early to start predicting the long-term consequences of short-term effects.

19. Nevertheless…………………….. In this period of uncertainty, one thing is for certain about the natural gas industry, “It will fluctuate”

20. Himanshu Pande hpande@icfi.com +91 9899502828 Ankur Bansal abansal@icfi.com +91 9891348349 Presented By: Headquarters: 9300 Lee Highway Fairfax, VA 22031 USA +1.703.934 3000 New Delhi 124 Janpath Thapar House New Delhi 110 001 India +91.4354 3000 Disclaimer: The views and opinions expressed in this paper reflect the perspective of the authors and should not be construed to reflect the views of ICF International