Australia's Oil Search says expansion is probably warranted
Exxon's biggest partner in the project, Australia's Oil Search Ltd. OSH.AU +0.63% , said sufficient natural gas probably exists in the country's highlands to warrant adding at least one refrigeration unit, known as a train, to chill natural gas into liquid so it can be exported to fast-growing markets in Asia.
Any major boost to the liquefied natural gas produced in Papua New Guinea promises to be a vital new source of profit for Exxon, which is attempting to arrest three years of falling production.
Expansion also would prove a windfall for Papua New Guinea's developing economy.
"By the end of the year, I think we'll have a pretty good idea as to the size and shape of the Hides field" in the highlands, said Oil Search Chief Executive Peter Botten.
A large increase in the amount of LNG pumped into Asia would make the gas market more competitive by creating a new source of supply for buyers in places such as Japan, South Korea and China.
The US$19 billion Papua New Guinea project began exporting chilled natural gas in May, putting the impoverished nation into the global energy market about three months ahead of schedule. The project's two existing trains are capable of producing 6.9 million metric tons of LNG a year, equivalent to about 8% of Japan's total LNG intake last year.
Exxon's oil and gas production has fallen since 2010 as the industry generally has struggled to find big deposits in countries that aren't hostile to foreign investment. The Papua New Guinea development is a key part of Exxon's efforts, along with exploration in Asia and projects in Canada and Russia, to improve performance.
The prospect of adding new refrigeration units to LNG projects is appealing to producers because costly infrastructure, such as pipelines, roads and storage tanks, has already been installed. Expanding processing is therefore a relatively inexpensive way to boost production.
Still, expanding the project would bring more LNG into the market, potentially driving down prices for producers such as Exxon, Chevron Corp. CVX +0.61% and Royal Dutch Shell RDSA.LN +0.73% PLC. Supplies in Asia are already expected to rise substantially in the coming years as a result of the U.S. shale-gas boom.
Papua New Guinea operators have an advantage over LNG developers in places such as Australia, where labor is more expensive. Buyers are also eager to diversify their supply sources to protect against the possible disruptions.
John Hirjee, an analyst at Deutsche Bank, estimated that Exxon's plant in Papua New Guinea will generate a return on investment of 19% over its life, potentially making the project one of the most lucrative in the Asian-Pacific region.
For Oil Search, which recently began exploring for oil in Iraqi Kurdistan, adding a third processing unit could be a quick way to increase earnings as investors question how it will maintain sharp gains in its stock price. The company's shares have almost doubled in price in the five years since construction on the LNG project began.
For Papua New Guinea's government, a decision to invest in new processing facilities would inject much-needed cash into the economy. Spending on the foundation stage of the project is already set to more than double the country's gross domestic product, according to some estimates.
Large investments in the country have led to quarreling between tribal landowners and lawmakers over how the proceeds should be divided.
Oil Search's Mr. Botten, a longtime resident of the country, said he was optimistic that rewards from the project would be distributed equitably. "The government has made the right moves in terms of setting up sovereign-wealth funds and various mechanisms for benefits distribution, but it's early days," he said. "Part of the solution is that the private sector works with government to help deliver services like health."
The country's high proportion of people with AIDS—as much as 0.7% of the nation's adult population, according to some estimates—is of particular concern.
Write to Ross Kelly at ross.kelly@wsj.com
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