United States: Department Of Energy Approves First Export Of Canadian LNG Made From Natural Gas Produced In The United States

In a groundbreaking decision, the US Department of Energy's Office of Fossil Energy ("DOE/FE") issued its Order 3639 ("Order") on Friday, May 22, 2015 with respect to Pieridae Energy (USA) Ltd. ("Pieridae") – a client of Norton Rose Fulbright US LLP and Norton Rose Fulbright Canada LLP. While similar in many respects to the numerous earlier orders the DOE/FE has issued authorizing entities to export liquefied natural gas ("LNG") to countries having free trade agreements requiring the national treatment of trade in natural gas ("FTA countries"), this was the first time the DOE/FE has issued an order providing for natural gas to be exported to Canada for the express purpose of being converted to LNG and then re-exported to other countries.

In issuing the Order, the DOE/FE had to tackle a critical question: Where does its jurisdiction over exported natural gas end?

In situations involving the conversion of natural gas to LNG in the US and the subsequent export of the LNG the DOE/FE's approach is clear, it follows the LNG in transit until the LNG reaches its final destination. Delivering LNG to the first port-of-call does not end the DOE/FE's involvement. If the LNG is reloaded and sent on to a subsequent destination, the location of ultimate end-use of the LNG must fall within the scope of the US exporter's DOE/FE export authorization or the exporter will be subject to sanctions, including the revocation of its export authorization.

Until the Order was issued, the DOE/FE's position on its jurisdiction over LNG made in other countries from natural gas whose country of origin was the US remained undecided. Among the complicating factors is that the North American Free Trade Agreement ("NAFTA") severely limits the ability of the NAFTA signatories (which consist of Canada, Mexico and the United States) to control the fate of the products that they export to one another, except that the exporting country may require that the exported product be consumed within the importing country. For example, if US produced natural gas were exported to Canada and used there (i.e., consumed) as feedstock to produce plastic, the US typically would have no say as to whether or where such plastic could be exported from Canada. Many facts surrounding the conversion of US produced natural gas to LNG in Canada could lead to the conclusion that natural gas is consumed in the process of producing LNG. For example, the chemical composition of the natural gas exported from the US into Canada will be altered in Canada as part of the pre-treatment process used at the Goldboro LNG Export Project. Further, on an energy content basis, the value of the natural gas would likely be more than double the value of the natural gas used to produce the LNG. Also, on a per unit of volume basis, the cost of processing the natural gas into LNG could exceed the cost of procuring the natural gas.

However, if natural gas were deemed to be consumed in the process of being converted to LNG, the combined effect of the NGA and NAFTA would be to make it easier to export US produced natural gas as LNG from Canadian and Mexican LNG terminals to non-FTA countries than from US LNG terminals. Specifically, Section 3(c) the NGA requires the DOE/FE to approve applications for authorization to export natural gas to Canada or Mexico without modification or delay. In contrast, in order for the DOE/FE to approve exports of US produced LNG to non-FTA countries, the DOE/FE must first make a finding that such exports are not inconsistent with the public interest. This provides the DOE/FE with much greater control over determining which exports to approve and the pace and other details of its application review process.

Currently, there are no docketed applications before the DOE/FE that propose to export LNG made in Canada (or Mexico) to non-FTA countries, where such LNG would be made with US-sourced natural gas that was exported into Canada (or Mexico) on the basis of a DOE/FE Order authorizing export of such feedstock natural gas only to FTA countries. However, the DOE/FE, nevertheless, used the Order to put future applicants on notice that the DOE/FE would not grant such an application. The Order states in relevant part:

Order at pages 3-4.

Of course, entities proposing to convert US produced gas into LNG in Canada or Mexico would not be merely transiting natural gas (or LNG) through a FTA country on the way to a non-FTA country. As alluded to above, converting natural gas to LNG is expensive (more expensive than the natural gas feedstock in some cases) and involves a multi-step pretreatment process that results in LNG with distinct properties and chemical composition (and much higher value) compared to the feed stock natural gas. However, footnote 7 of the Order clarifies that the DOE/FE does not consider such facts determinative of whether the US natural gas is consumed in Canada and, thus, immune from further US control. The DOE/FE states: "For purposes of this Order, 'end use' is defined as combustion or other chemical reaction conversion process (e.g., conversion to methanol)." Thus, it appears that only if the molecular structure of the primary constituent of natural gas (methane) is altered (rather than the mix of secondary chemical components altered) will the DOE/FE recognize the natural gas to have been consumed in a particular country.

Pieridae anticipated the DOE/FE's concerns and likely ruling and, with that in mind, filed a combined application for authority to export natural gas to Canada for the purpose of converting such natural gas to LNG in Canada and exporting such LNG to any combination of FTA and non-FTA countries, thereby eliminating any possibility that it might be viewed as seeking to evade US law. Now, Pieridae stands as, not just the only entity to have received DOE/FE authorization to export Canadian LNG made with US natural gas to any FTA country, but also the first to have applied to the DOE/FE to export Canadian LNG made with US natural gas to non-FTA countries.

Pieridae's request for authorization to export Canadian LNG made with US natural gas to non-FTA countries has been pending since October 2014. Because Pieridae is not proposing to build any facilities in the US to accomplish such exports and US law exempts Canadian pipelines and LNG facilities from US environmental reviews, the DOE/FE should not need to conduct a lengthy environmental review process before acting on the last portion of Pieridae's application.

These Pieridae firsts are significant additions to the many other North American LNG industry firsts achieved with the help of lawyers who are currently a part of Norton Rose Fulbright's industry leading North American LNG practice, including:

• First US made LNG export authorization to FTA countries for a project in the lower 48 states by DOE/FE.
• First US made LNG export authorization to non-FTA countries for a project in the lower 48 states by DOE/FE.
• First LNG export project approved in the lower 48 states by the FERC.
• First LNG import project NGA Section 7 connector pipeline to be exempted from FERC natural gas pipeline tariff requirements.
• First LNG import project connector pipeline authorized by FERC as a NGA Section 3 pipeline.
• First authorization from the FERC to use truck delivered LNG to cool down a US LNG import terminal.
• First authorization from FERC to reliquefy boil-off gas in conjunction with the operation of an LNG import terminal.
• First LNG re-export authorization for an LNG import terminal by DOE/FE.

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