Global LNG Market and Contractual Trends

by Fidan Aliyeva

May, 2009

Due to the rapidly evolving energy market trends, today we witness diverse and changing LNG industry. Royal Dutch Shell plc. is a market leader during 45 years since 1964. The multi-pronged approach assisted in maintaining leading position and allowed company to balance its long-term goals with the commitments on shareholder value. The R&D spending, that is the highest in petroleum industry, helped to develop the company core competence – technological innovation.

This paper attempts to evaluate the external environment of the LNG market and current strengths and weaknesses of the market leader – Royal Dutch Shell plc. It reviews the latest contractual issues that reflect market trends and legislative concerns.

University of DundeeCentre for Energy, Petroleum and Mineral Law and Policy

MBA in Oil and Gas Management Programme

TABLE OF CONTENTS

TABLE OF ABBREVIATIONS

1. Executive summary……………………………………………………………………..5

2. Overview of LNG market development…………………...…………………………....6

2.1. Historical Background……………………………………………………………..6

2.2. LNG Chain…………………………………………………………………………7

2.3. World Natural Gas reserves and consumption……………………………………..7

2.4. Current market trends: co-existence of spot and long-term markets………………8

2.5. New market arrangement and emergence of arbitrage……………………………..9

3. External Environment analysis…………………………………………………………10

3.1. Barriers to entry……………………………………………………………………10

3.2. Competitor analysis………………………………………………………………..11

3.3. Bargaining power of buyers and suppliers………………………………………...12

3.4. Substitutes………………………………………………………………………….13

4. Royal Dutch Shell in LNG industry…………………………………………………….14

4.1. Value Chain……………………………………………………………………….. 15

4.2. LNG projects……………………………………………………………………….15

4.3. Innovation as a core competence…………………………………………………..18

4.4. Role of Patents……………………………………………………………………..20

4.5. The company updated strategy, March 2009………………………………………21

4.6. Stakeholder Analysis……………………………………………………………….24

5. Conclusion………………………………………………………………………………26

APPENDIX I

Figures……..………………………………………………………………………………..30

APPENDIX II

Royal Dutch Shell plc. General Business Principles………………………………………..34

REFERENCES AND BIBLIOGRAPHY

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TABLE OF ABBREVIATIONS

ACQ Annual Contract Quantity

CCGT Combined cycle generation turbine

CEO Chief Executive Officer

CO2 Carbon Dioxide

EIA US Energy Information Administration

FLNG Floating Liquified Natural Gas

GTL Gas-to-liquid

IEA International Energy Agency

IP Intellectual Property

LNG Liquified Natural Gas

ROACE Return on Average Capital Employed

Tcf Trillion cubic feet

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1. Executive Summary

The purpose of this paper is to reveal briefly the main trends of the current LNG industry, as the

rapidly evolving market due to advanced technological innovations and its significant role in

resolving one of the burning issues of the day – steady increase in world energy consumption. The

external environment using M. Porter’s five forces will be analysed as well as the strengths and

weaknesses of the business strategy of Royal Dutch Shell as LNG market leader. Some

recommendations will be made to the stakeholder policy of Shell since it represents one of the main

parts of company business strategy that requires particular attention in the context of today’s

business environment.

Overview of LNG market development

Significant changes of the industry: emergence of the spot market and arbitrage, introduction of the

flexibility clause in the long-term market, were caused by few factors one of which is the need to

develop this industry as energy alternative source with extensive potential.

External Environment analysis

LNG industry features high barriers to entry. Current trend in shifting bargaining power from

suppliers to buyers and price volatility makes this business more risky. There are two main market

competitors, Royal Dutch Shell plc. and ExxonMobil, who follow identical company strategy. The

closest substitute to LNG is coal, which is the least favorable energy source because of its CO2

emissions what makes it less competitive with LNG.

Royal Dutch Shell in LNG industry

Royal Dutch Shell plc. developed strong LNG Value Chain. Company multi-pronged strategic

approach is aimed at adding shareholder value through long-term investments. Company R&D

spending are the highest in the industry and successfully facilitate the development of its core

competence – technological innovation.

Conclusion

Though Royal Dutch Shell plc. adapts regularly its business strategy to market trends, its

stakeholder policy and company mission do not reflect the important changes what makes company

more vulnerable in its market leading position. Stakeholder Audit process should be performed

constantly to maintain leading market position.

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2. Overview of LNG market development

2.1 Historical background

The Liquified Natural Gas (LNG) technology is not new as the LNG first commercial

facility was built in the United States in 1941 in Cleveland as a peak load shaving facility.

The commercialization of a gas field by either LNG or direct pipeline depends on the

distance to market from the gas reservoir. (Chandra 2006)

It was in January 1959 when the first LNG tanker delivered the first LNG cargo from Lake

Charles, Louisiana to Canvey Island in the United Kingdom. The first liquefaction plant that

started the commercial transportation of LNG into Europe was built in the 1960s at Arzew in

Algeria. The further LNG industry development was impeded by the development of gas

transportation by pipeline. Thus, until recently LNG industry mostly comprised only of

regional gas transportation market. (King & Spalding LLP 2006)

The following forces stimulated the recent interest to the international LNG market: (Jensen,

2004)

• Innovation of combined cycle generation turbine (CCGT) plants and their use for

growing electric power markets.

• Cost reduction due to advanced technology, that made previously uneconomic trades

more attractive

• environmental concerns and regulations. By comparison with the coal-fired boiler,

gas-fired CCGT plants can cut CO2 emissions by 40%.

• increased energy demand of developing countries, for example, India and China

• increased concern for security of supply in the face of growth, example of Spain that

entered LNG import market in order to diversify its reliance on Algeria gas imports.

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• phenomenon of the 'stranded gas'

2.2 LNG chain

There are specific features of LNG industry that are important in order to understand the

industry structure and operating businesses.

According to Paul Griffin, 2006, the LNG business consists of at least three large

infrastructure projects:

(1) upstream oil and gas project

(2) a liquefaction plant for the production of LNG for loading onto LNG tankers

(3) a regasification plant for the receipt of LNG and its regasification so as to make

natural gas available for delivery to consumer.

These three projects along with the LNG tanker transportation represent the LNG Value

Chain, each element of which is capital-intensive and delay in any part of the chain

adversely affects capital recovery. (Jensen 2004).

2.3 World natural gas reserves and consumption

The current proven world natural gas reserves according to the US International Energy

Agency are 6,254.364 trillion cubic meters (International Energy Agency (IEA) 2009). Due

to the geographic imbalance between the sources of supply and demand, the trade relations

and importance of transportation are extremely important in natural gas industry. (Considine

& Rose 2001).

Due to the rapid growth in worldwide natural gas demand, a substantial increase in world

gas trade is anticipated by all the forecasters. According to the International Energy Outlook

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2009, world natural gas consumption increases by an average of 1.6% per year, from 104

trillion cubic feet in 2006 to 153 trillion cubic feet (Tcf) in 2030. (EIA 2009). According to

the Official Energy Statistics from the US Government, provided by the Energy Information

Administration, natural gas consumption in 2008 reached 23.2 trillion cubic feet, a near-

record level, second only to the volume consumed in 2000.

2.4 Current market trends: co-existence of spot and long-term markets

The traditional structures of the LNG business are in the form of long-term inflexible

contracts. (Griffin 2006). These are characterised by rigidity: (IEA 2002).

1. long-term Taker-Or-Pay contracts

2. liquefaction capacities booked under long-term contracts

3. no supply flexibility

4. no ships available for released spot volumes.

The huge infrastructure investments and long lead times were required for LNG production.

The new challenges and opportunities for buyers and sellers appeared recently as a result of

market deregulation in many East Asian and European countries. Thus, the new LNG

market has emerged and became competitive with the piped gas. The further cost reductions

in the gas chain and its major alterations have made it possible for LNG sellers not to bind

all their production to fixed counter-parties under long-term contracts and to sell spot to

other partners. (IEA 2002).

The short-term LNG market has grown rapidly in the past several years. During the 5-year

period from 1997 till 2002 the short-term international LNG trade increased sevenfold, from

1.5% to 8.9% of international LNG trade. (Jensen 2004) (see Figure 1, App.I). The short-

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term market has the relative disadvantages of volume risk, price risk and infrastructure risks.

( Mazighi 2004).

However, while growing, the short-term LNG market still remains at less than 9% of total

trade. Thus, the long-term contract in LNG will remain a major part of international LNG

trade but even so, their particular clauses will undergo substantial change, including

flexibility of the destination clauses (Jensen 2004).

2.5 New market arrangement and emergence of arbitrage

In the near future the North America and Europe will emerge as the largest target for LNG

imports due to the growing gas demand. This is caused by the declining prospects for North

Sea production and the increasing demand in Canada, who was earlier a major US supplier.

Thus, the balance of LNG growth will be shifting to the Atlantic Basin from the Northeast

Asian markets and Pacific Basin. Qatar and Iran are the major suppliers in the Middle East

whereas Nigeria, Egypt and Algeria became today important players in LNG market.

(Jensen 2004)

The emergence of arbitrage between markets is also the new trading pattern. It enables the

trading company to divert cargoes to more profitable markets. However, this pattern requires

sufficient excess capacity in tankers and receipt terminals. (Jensen 2004)

The developing character of LNG market, along with the above-mentioned features,

provides the general picture of the current trends of LNG market. The successful strategy of

Royal Dutch Shell is based on the constant monitoring of market trends what is fundamental

for further restructuring of company strategic policy.

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3. External Environment analysis

3.1 Barriers to entry

The analyses of the external environment are evaluated using M. Porter’s five market forces

(1980).

The specific features of LNG business make this market extremely difficult for entry. These

features operate as barriers to entry (Porter 1980) for new market players. As per Paul

Griffin, these features are (i) the remote nature of source of production and the markets of

consumption and (ii) high capital costs of the infrastructure development that required for

the upstream part of the project, construction of the liquefaction and regasification plants.

As a result there are only few numbers of the leading competitors (see Figure 2, App.I).

Access to the reserves and involvement of governments as buyers through national

companies are additional barriers to entry what make threat of entry of new players very

low. Furthermore, the transfer of market power from sellers to buyers and price volatility

(Ross 2009) add more risk for entering this market.

It is noteworthy that though there might be consideration of a rivalry for new international

markets, the existing market players operate in co-operative manner. The reason for such

approach lies in the complexity of LNG contracts and their legally binding obligations.

One of the significant developments in LNG contracts is the flexibility of destination clause.

However, since seller has a binding obligation to deliver the fixed annual contract quantity

(ACQ), he must supply the undelivered amount to the fixed counter-party within the year.

There was practice when producer was unable to meet this obligations and it was covered by

another major market player. (Professional traineeship 2009). Such practice might be

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regarded as an evolutionary problem that features industry developing stage and it

emphasizes the importance of co-operation between market competitors.

3.2 Competitor analysis

The major market competitor to Royal Dutch Shell in LNG industry is ExxonMobil

corporation. With current production level of 35 million tons per year, company anticipates

its increase to almost 65 million tons per year by 2010 with further increase up to 100

million tons per year. Currently company in cooperation with Qatar Petroleum is building

integrated LNG ‘chains’ to serve customers in Europe, Asia and United States. ExxonMobil

achieved breakthrough results in LNG transportation design due to the efforts of teams of

experts who optimized ship propulsion. As a result, ship delivers more LNG to market as

processing technology has been installed on the ships to re-liquefy LNG. (ExxonMobil

2009)

LNG is playing an increasing role in company activities in the US. The Golden Pass LNG

regasification terminal in Texas built by ExxonMobil is scheduled to start up in 2010 and

company is developing project on new LNG terminal offshore New Jersey. (ExxonMobil

2009)

In Europe, ExxonMobil has ownership in many key assets in the Netherlands, Germany and

the North Sea. In Asia Pacific, company is one of the largest suppliers of gas in Australia

and Malaysia. It sells gas in Thailand, far east Russia and Qatar. Company LNG ventures in

Indonesia and Qatar supplies European and Asian markets, including Japan, South Korea,

Taiwan and India.(ExxonMobil 2009)

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Thus, considering the strategic position of ExxonMobil to sustain a leading global role in

LNG Value Chain, company’s strategy is similar to the strategy of Royal Dutch Shell.

Though technological innovation is also the core competence of ExxonMobil, company’s

R&D expenditures are lower than Shell’s expenditures. (see Figure 3, App.I)

Such approach might change in future as according to the statement of company Chairman

and Chief Executive Officer (CEO), Mr. Rex Tillerson, technological innovation are vital to

solve today’s industry challenge that is targeted at meeting world energy demand while

reducing environmental impact. (ExxonMobil 2008).

3.3 Bargaining power of buyers and suppliers

Taking into account that the total natural gas consumption increases by an average of 1.6%

per year and world oil prices assumed to return to previous high levels after 2012, buyers

opt for the less expensive natural gas whenever possible. (US Energy Information

Administration (EIA) 2009).

The prices for LNG have fallen for three main reasons, which are (1) the economic

recession, (2) several new LNG export projects; (3) announcement of very large commercial

reserves of shale gas in US. Consequently, these events led to the transfer of market power

from suppliers to buyers. (Ross 2009).

Furthermore, since gas demand in some part of the world is seasonal and it increases in

countries with limited storage capacity, price volatility is likely to become a common factor

in LNG market. However, it will encourage the balanced distribution of market power by

shifting LNG market to regions that will become more valuable and important for

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investment. (Ross 2009) As this presents an attractive growth opportunity, it might be

recommended to constantly observe and implement comparative analysis for the demand of

various buyers.

3.4 Substitutes

As seen from the Figures sourced from the Energy Information Administration, (2008), the

closest substitute for LNG today is coal. (see Figure 4, App.I) Considering that global

energy demand is projected to rise at an unprecedented rate, the world's vast coal reserves

are attracting growing interest from governments in Europe, the US and Asia. (Euractiv

2007)

Though the consumption of coal is projected to rise (see Figure 5, App. I), the fact that it is

the dirtiest of all of the fossil fuels makes it the least favourable energy source. (see Figure

6, App.I). Natural gas is not only much cleaner than coal, but it also is better adapted to

meet electricity peak demand. (Ross 2009).

Environmentalists argue that since the environmentally-clean coal is not expected to become

economically viable before twenty years and with the growing sense of emergency

surrounding global warming, coal is simply not the answer to the energy source issue.

(Euractive 2007). Thus, it cannot be considered as a serious substitute for LNG in the near

future.

In summary, considering current market power distribution, capital intensity of LNG

business and price volatility as well as contract complexity, it can be stated that this industry

is still undergoing its development and has not achieved its mature stage of the lifecycle

(Hill & Jones 1989).

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The long-term strategic goals and technological investments assisted Royal Dutch Shell Plc

to attain a leading market position. As stated above, company R&D expenditures are the

highest in the industry under question what might be considered as a key to company

success.

4. Royal Dutch Shell in LNG industry

Since natural gas is becoming an increasingly important environmentally-friendly source of

cleaner energy, the expansion into LNG industry is bringing new opportunities.

Royal Dutch Shell position in LNG market comprises not only of the leadership in the

upstream part of LNG business, but also as leading company in liquefaction, regasification

and transportation parts. (Royal Dutch Shell plc. 2002)

(see Figure 2, App. I)

At the end of 2008, Shell was producing 3% of the wolrd’s gas. Oil and Gas production

totalled 3.2. million barrels a day, with 45% of it of natural gas. (Royal Dutch Shell plc.

Sustainability Report 2008).

The leading roles in energy supply and energy shipping industries is stipulated by the

significant experience and expertise in both types of activity developed since 1964, when

company shipped over 8,500 cargoes without loss (Royal Dutch Shell plc. 2002) and

developed world’s first commercial liquefaction plant at Arzew, Algeria (Royal Dutch Shell

Plc. 2009).

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4.1 Value Chain (Porter 1998)

Today, company meets successfully its long-term supply obligations and responds flexibly

to short-term changes in demand. Shell International LNG Supply (SILS) buys and sells

LNG to and from Shell, its partners and third parties. Additionally, SILS manages the

shipping fleet to support the gas supply business. (Royal Dutch Shell plc. 2009)

Shell International Trading and Shipping Company Limited (STASCO) maintained

continuous involvement in LNG shipping for over 40 years, securing the safe delivery of

company cargoes worldwide. (Royal Dutch Shell plc. 2002)

Currently Shell is one of the largest LNG vessel operators in the world managing more than

30 LNG carriers. As a result of partnership with Nakilat Shipping (Qatar) Limited the fleet

will be increased by 25 world’s largest LNG carriers that belong to Nakilat Shipping

company. Shell’s technical expertise is applied in the design, tender, construction or

reintroduction into service of more than 55 of the world’s LNG carriers (Royal Dutch Shell

Plc. 2009).

Thus, Royal Dutch Shell successfully created an LNG Value Chain (J. Jensen) and, as can

be seen from Figure 2 (see App.I) there are only six companies in the world that can

compete at this level of LNG business.

4.2 LNG Projects

Royal Dutch Shell’s objective states the efficient, responsible and profitable engagement in

oil, gas, chemicals and other selected businesses and participation in the search and

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development of other sources of energy to meet evolving customer needs and the world’s

growing demand for energy. Simultaneously, company seeks a high standard of

performance, maintaining a strong long-term and growing position in the competitive

environments in which it operates. To achieve these targets, company aims to work closely

with customers, partners and policy-makers to advance more efficient and sustainable use of

energy and natural resources. (Royal Dutch Shell plc. 2005).

Company is also committed to contribute to the sustainable development through the

balancing its short and long-term interests. (Royal Dutch Shell plc. 2005).

One of the company’s strategic goals is to achieve and sustain a world leading position in

LNG business. In pursuing this goal, company is committed to develop new markets.

In 2005, Shell was the first international oil company that delivered LNG to India. IN 2006

the first LNG was delivered by Shell to Mexico. Additionally. company was involved into

the first delivery of LNG to China through the North West Shelf Venture. (Royal Dutch

Shell plc. 2009)

According to the 2008 Annual Report, several following activities were undertaken within

LNG business development strategy (Royal Dutch Shell plc. 2008):

- Shell signed an agreement with Petrobras on supply of LNG to two regasification

plants in Brazil;

- Shell signed a Sale and Purchase Agreement with PetroChina and Qatargas to supply

LNG to Chine for over 25 years;

- Shell will develop a floating LNG facility at World Jebel Ali Terminal in United

Arab Emirates;

- Shell signed an agreement with Iraq’s Ministry of Oil to establish a joint venture for

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procession and marketing of natural gas in southern Iraq;

- Shell and PetroChina signed a binding long-term agreement on LNG supply to

China.

Additionally, the significant achievement of 2008 includes the start-up of North West Shelf

LNG Train 5 in Australia what increased Shell’s global LNG production capacity to 15.9

million tonnes a year. Earnings for 2008 were 61% higher versus 2007 showings, mainly

due to strong LNG and Gas-to-Liquid (GTL) product prices, strong LNG and GTL plant

reliability, LNG supply optimisation and higher marketing and trading contributions in

North American and Europe. (Royal Dutch Shell plc. 2008).

Consequently, Shell has supply projects in seven countries: Australia, Brunei, Malaysia,

Nigeria, Oman, Qatar, Russia. Additionally, Shell has major interests in regasification plants

in Mexico (Altamira), and India (Hazira). Each of the projects is committed to supply

different market, but most of supplies will serve North America (Qatargas 4, Nigeria LNG),

North-East Asia (Malaysia LNG, Brunei LNG, North West Shelf Venture Australia) and

Europe (Nigeria LNG). Sakhalin II will cover both the Asia-Pacific region and the West

Coast of North America. (Royal Dutch Shell plc. 2009)

Currently, company’s major LNG projects are Sakhalin II and Qatargas 4. Sakhalin II LNG

plant will have a capacity of 9.6 million tonnes per year from its first two trains. All the gas

from this project has been sold under long-term contracts to the Asia-Pacific and North

American markets. (Royal Dutch Shell plc. 2009)

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A single LNG train of Qatargas 4 project forecasted to yield approximately 7.8 million

tonnes of LNG per annum. LNG from this project will be shipped to the Elba Island

regiasification facility in Georgian in the United States and to terminals in China and Dubai.

(Royal Dutch Shell plc. 2009) (see Figure 7).

Thus, by pursuing company strategic objective mentioned above, Royal Dutch Shell is truly

committed to create a shareholder value through diversification within the energy industry.

Company acquisition policy in underdeveloped oil and gas resources (North America) or

downstream position in growth markets (China, Europe) adds value with integration,

investment, technology and scale. However, reviewing the showings of Return on Average

Capital Employed (ROACE) for the period of 2008 and 2004 there is a steady decline after

the peaked level in 2005 (24.8% vs. 18.5% in 2008 and 19.6% in 2004). (Royal Dutch Shell

plc. 2008).

These results might be regarded as contradictory to company goal aimed at adding value to

shareholders, while on the other hand, they evidence on the company commitment to invest

in long-term projects, including LNG.

4.3 Innovation as a core competence (Hamel and Prahalad 1990)

The approach on use of technological innovations helped company to pioneer new markets

and maximize production. LNG industry is capital-intensive and the cost minimisation is an

important issue in order to maintain the sustainable development of the project (Royal

Dutch Shell plc. 2009). In this regard, the technological innovation facilitates the significant

reduction of capital cost of the project.

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The innovation on the cooling process of LNG, which usually involves several cooling

stages, helped Shell to build the first LNG plant in extremely cold climates such as the plant

on Sakhalin island, Russia, where company’s design of the cooling process used a mix of

refrigerants in the first cooling stage rather than just the one, as was used previously. Thus,

LNG production could be maximised due to the varying concentrations of the refrigerants

that helped to compensate very high fluctuations in outside air temperature. (Royal Dutch

Shell plc. 2009).

Floating LNG (FLNG) concept is today’s one of the most advanced and sophisticated

technological innovation. Shell Gas and Power Development BV is working on a project of

FLNG development with the total LNG capacity of 3,5 mtpsa with total liquid production

over than 5 mtpa. The Prelude field in the Browse Basin of Western Australia was chosen as

a location to deploy FLNG. (Voskresenskaya 2009).

Since innovation is a core competence of Shell, commitment to technology and research is

the core of company business strategy. The technical expertise is considered to be telling

factor in the growth of the business. (Royal Dutch Shell plc 2009)

Shell peaked its expenditure in this area by $1.3 billion in 2008 – the highest spending in

petroleum industry. The main goals of R&D activity are as follows (Royal Dutch Shell plc.

2008):

- improve ability to find, develop, recover and process greater volumes of oil and

gas at lower cost

- improve the efficiency of converting oil, gas and, more recently, biomass into

products with cost and performance benefits

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- reduce the environmental impact of our operations and products with a focus on

the reduction of greenhouse gas emissions

The above mentioned information supports the fact on company commitment to the

innovative approach as a key to realization of its strategic goals. However, there are some

disadvantages and risks in pioneering new technology. One of them is the copying the

innovations by the followers. In this regard, is it noteworthy to elaborate on Shell’s approach

to this problem.

4.4 Role of Patents

Shell’s highly trained engineers and researchers are constantly working on new more

efficient solutions for the oil and gas industry. Therefore, the patents play a vital role in

ensuring Shell-funded innovations benefit the company no its competitors. (Shell

Exploration and Production 2008). Shell’s Intellectual Property Services has a number of

specific objectives in using the patent system. One of the main objectives is to protect R&D

investment by getting exclusivity. In 2007 R&D budget was in excess of $1.2 billion and the

worldwide technical staff was more than 30,000. (Shell Exploration and Production 2008)

The secrecy is an increasingly risky alternative to the patent, and its main disadvantage is

that if competitor comes up with the same idea, and starts to patent it, it is not possible to

use the innovation any more. The Shell’s history on patenting starts since October 1910

when company applied for a UK patent for an improved treatment of acid tar. Currently,

company has 30,000 patents and pending patent applications. The company division on

Intellectual Property (IP) ensures that Shell’s patent portfolio supports and helps achieve

1

strategic business objectives through proper IP asset management. (Shell Exploration and

Production 2008)

The Patent Scorecard ranks corporate innovation using a series of metrics to determine

patent quality, technological strength and breadth of impact. As per the data from Patent

Board dated January 2009, that ranked patent scorecard leaders, the Royal Dutch Shell

moved to the first place from the third place in 2008 to resume the leading position in the

energy & Environment sector. (Shell Exploration and Production 2009)

Thus, as commented by the spokesman from the Patent Board, Shell’s patents have over six

times the impact compared to the Energy and Environmental industry average. (Shell

Exploration and Production 2009). Such approach might be considered as one of the

fundamentals in maintaining long-term market position and to defend company’s core

competence (Hamel & Prahalad 1990).

4.5 The company updated strategy, March 2009

In response to the recent market trends, particularly the economic slowdown, Royal Dutch

Shell updated its strategy policy accordingly. The main challenge faced by the industry was

a sharp downturn in energy prices at a time when costs are high by historical standards.

The company strategy reflected the industrial trends and focused on consistent view of

industry landscape; more upstream, profitable downstream; and capital discipline, portfolio

approach. (Royal Dutch Shell plc. 2009).

As stated by Mr. Peter Voser, the company new CEO since 1 July 2009, the strategic goal is

a long-term obligation to create value that should be optimised along the whole value chain

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and time line. He underlined that timescales and public agendas are usually short term while

technology and R&D agendas in general are long term. (Voser 2009)

The current challenges in Upstream business is to produce new barrels to offset natural field

decline and create growth, while in downstream – to balance the continued demand from

customers and governments for cleaner products with the challenges to the industry from the

cost of supply.

In order to survive during the recent recession, company focused more heavily on cost

structure to dispose late-life fields and small refineries without access to Shell marketing

positions. However, following its long-term strategy, selective acquisitions were made.

(Royal Dutch Shell plc. 2008)

Due to the balance sheet flexibility to maintain investment and grow dividends in the

downturn Shell was the only company in the sector to have already announced dividend

growth plans for 2009. Company will invest some $31-$32 billion to create the industry-

leading portfolio (Voser 2009). Among the major investments underway today is a 40% (6.8

million tonnes per year) increase of LNG capacity over 2008 levels and development of oil

and gas fields with some ~ 1 million barrels oil equivalent per day of capacity, which will

generate 2-3% annual production growth early in the next decade, to 2012. The strong

balance sheet with gearing indicator of 6% at the end of 2008 underpinned this investment.

The increase in dividends for 2009 is expected to be some $10 billion, which constitutes a

5% increase for the 1st Quarter of 2009 compared to the previous year. (Royal Dutch Shell

plc. 2009)

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In summary, this multi-pronged approach (Voser 2009) not only assisted Royal Dutch Shell

in realization of its strategic goals, but helped company to recover rapidly after the recent

recession peak.

4.6 Stakeholder Analysis

Today energy issues are the burning issue of the day due to the increasing demand and

environmental concern. LNG business is not an exception. Moreover, it attracts particular

attention because of the political aspect. Government participation in this business signifies

its strategic importance. Consequently, there are many stakeholder groups, but it is

important to identify those, whose power and influence might directly affect company

strategy.

Royal Dutch Shell’s areas of responsibilities reflect company’s obligations to meet needs

and expectations of stakeholder groups.

Company responsibilities are part of the Business Principles (see Annex II).

There are five areas of responsibilities (Royal Dutch Shell plc. 2005):

1. To shareholders. To provide their investment and provide a long-term return

2. To customers. To win and maintain customers by developing and providing

products and services which offer value in terms of price, quality, safety and

environmental impact

3. To employees:

- to respect the human rights of employees and to provide them with good

and safe working conditions, competitive terms and conditions of

employment

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- to promote the development and best use of the talents of employees

- to encourage the involvement of employees in the planning and direction

of their work

4. To those with whom company does business. To see mutually beneficial

relationships with contractors, suppliers and in joint ventures to promote the

application of these Shell General Business Principles or equivalent

principles in such relationships.

5. To society:

• To conduct business as responsible corporate members of society

• To comply with applicable laws and regulations

• To support fundamental human rights

• To give proper regard to health, safety, security and the environment

As suggested by Freeman and Reed (1998), the Stakeholder Strategy Process and

Stakeholder Audit Process are integral part of the strategy process. These processes

represent a systematic analysis of the relative importance of stakeholders, their cooperative

potential and competitive threat within the framework of the effectiveness of current

organizational strategies. Considering the current environmental concern of energy projects,

the latter is critical as reflects how stakeholder can prevent the corporation from achieving

its objectives.

In this regard, repositioning of the society group might be recommended to Royal Dutch

Shell in the light of the recent market trends. Moreover, considering the negative

experiences company encountered from the competitive threat of this group, for ex. case of

Brent Spar in 1995 (Greenpeace 2009), it is suggested to pay more attention to this issue.

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Society represents the largest stakeholder group and involves governments and pressure

groups. It is the only stakeholder group whose relations with company are not driven by

monetary interests, but involve the life interests of nations and every person. In addition,

control of strategic resources and possession of knowledge (skills) are the important

indicators of the source of power for the government, which is the part of society group,

and resource dependence makes society extremely powerful. (Johnson and Scholes 1997)

These factors should relocate this group from ‘C’ square, with high power but low interest,

into the ‘D’ square of the power/interest matrix, where key players are identified by the high

level of interest and high level of power. (Johnson and Scholes 1997) (see Figure 8, App. I)

Additionally, all other stakeholders are the sub-group of the society group. Through

meeting needs and expectations of the society group, company will not only avoid some

duplication in the areas of responsibilities, but also will expand its scope of responsibilities

to other stakeholders.

Therefore, in order to reflect the current business trends and evolution of the market

environment it is important to reposition stakeholder groups, making responsibilities to

society as a first priority.

With regard to the LNG industry, considering its high infrastructure costs, one of the main

areas of responsibility is ‘to those with whom company does business’. Since counter-party

is usually national companies, such aspect as their creditworthiness (Professional traineeship

2009) might be significant obstacle in maintaining the ‘mutually beneficial relationships’ as

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stated in the Areas of Respnsibility. The involvement of International Development Banks

or Trade Promotion Agencies of foreign governments usually resolves the issue. (Stickley

2006)

In summary, it can be stated that while succeeding in meeting shareholder interests Royal

Dutch Shell evaluated ‘multi-pronged’ approach (Voser 2009) surmounting the ‘stort-

termism’ view (Johnson and Scholes 1997). Company reviews its strategy periodically to

reflect the market trends. However, the stakeholder groups are still not considered as part of

the company strategy, as appropriate revisions and reorder of priority on company

responsibilities have not been undertaken.

Since no single measure will give a full understanding of the extent of the power held by

external stakeholders, the combined analysis, including stakeholder mapping and power

assessing analysis are required. (Johnson and Scholes 1997)

5. Conclusion

This report attempted to analyse the key strategic factors that assisted Royal Dutch Shell to

sustain a leading position in LNG market.

As discussed above, Royal Dutch Shell successfully developed its core competence (Hamel

& Prahalad 1990) – the innovation. Company’s patent policy successfully defended its core

competence (Hamel & Prahalad 1990) and secured its leading market role. Company is

committed to shareholder value while simultaneously follows a long-term strategy through

investments, that are the highest in the industry (Voser 2009), and efficiently expands its

market. In addition, company successfully attempts to become a market leader in each chain

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of the LNG value chain, whether it is production or supply businesses. Through consistent

development of technological innovations and market expansion, considering the trends of

today’s LNG emerging markets, company follows the main strategic rule that names the

strategic position as a path, not as a fixed location. (Porter 1980)

In the main company strategic policy Shell uses a ‘mixture’ of strategic policies following

two approaches from the dominating schools of thoughts: classical and processual

(Whittington 2001). It is the classical approach that drives the strategy by shareholder value

and, thus, leads to the short-term strategic view whereas the processual is more concerned

with ‘employee value’ and long-term goals. Processual approach suggests focusing on core

competences (Hamel and Prahalad 1990) whereas, as per M. Porter, it is more essential to

connect competitive ends, a company’s position in the marketplace, and means, elements

that allow company to attain that position.

The competitive threat (Freeman and Reed 1998) of the stakeholder groups might be

considered as an element that allows company to attain the leading market position as long

as company meets needs and expectations of the particular group. Otherwise, as mentioned

above the strategic goal will not be achieved and company may loose its leading role. In this

regard, it is vital to reassess the power of stakeholder groups through the Stakeholder Audit

process. (Freeman and Reed 1998)

All of the above analyses imply that Royal Dutch Shell does not view its strategy as the part

of the mission. The main mission of the energy company is to explore the natural resources

for the benefit of society – this is the higher-level purpose which is not stated in the

company strategy: ‘More upstream, Profitable downstream’ (Voser 2009).

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It is noteworthy to pay attention to the strategic statement of ExxonMobil that does not

reflect company target in the narrow sense, but stipulates the energy needs of society:

“Taking on the world’s toughest energy challenges”(ExxonMobil 2008). Thus, it might be

assumed that with increased R&D spending ExxonMobil will attain the leading role in LNG

market.

Royal Dutch Shell statement reflects company commitment for the benefit of shareholder

what attributes Shell to the first group of companies under the purpose categorization.

(Campbell and Yeung 1998). Since company’s areas of responsibilities recognize the needs

of its stakeholders, it stipulates that company exists to satisfy their expectations – this

attributes Royal Dutch Shell to the second group of companies. Although Shell is

successfully balancing its strategic elements through controlling ‘short-termism‘ and long-

term goals, the equivocal declaration of company purpose might fail to build on the values

and behaviour standards that already exist in the company what in turn will not inspire the

emotions of the managers and employees who are expected to put them into practice

(Campbell and Yeung 1998)

Such pitfalls in the formulation of main company mission extend to all company businesses,

including LNG. Consequently, it threatens the company’s leading position and respective

revision is required.

As stated above the Stakeholder Audit process should be implemented constantly. (Freeman

and Reed 1998). Additionally, as suggested by Campbell and Yeung, (1998), the first steps

for promoting mission planning are similar to the strategic planning process:

(1) ask managers in charge of business units to include issues of purpose, values and

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behaviour standards along with the presentation at the strategy review

(2) as the m whether or not their organization is culturally aligned with their strategy

(3) ask them what t heir three most important behaviour standards are.

At a later stage, mission discussion will be separated from the strategy discussion, and the

corporate mission and mission for each business unit will result in mutual compatibility.

These first steps are recommended to Royal Dutch Shell plc. for maintaining its market

leading position in LNG industry.

This report attempted to analyse briefly this issue within the allowed world limit and select

more relevant data from the vast available resources in order to answer the question

completely. However, there is a lot of material that can be used for more detailed and

extensive analysis.

6,126 words

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APPENDIX IFigures

Figure 1. LNG Trade showing the growing role of short term sales

Source: ‘Understanding the LNG Industry’, Presentation to the 2006 AGA Financial Forum, Scottsdale, AZ, May 200, James T. Jensen. Available at http://www.aga.org/Events/presentations/finance/2006/2006finforum/0605JENSEN.htm

Figure 2. LNG Leadership

Source: Royal Dutch Shell Plc., Investor Presentation ‘Building new heartlands, Managing Recession Challenges’ March 17, 2009. Available at: http://www-static.shell.com/static/investor/downloads/news_and_library/2009_strategy_webcast_analysts.pdf

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Figure 3. Research & Development Spending

Source: Royal Dutch Shell Plc., Investor Presentation ‘Building new heartlands, Managing recession challenges’ March 17, 2009. Available at: http://www-

static.shell.com/static/investor/downloads/news_and_library/2009_strategy_webcast_analysts.pdf

Figure 4. World marketed energy demand by fuel type, 1980-2030

Source: Energy Information Administration, Natural Gas, [Online], Washington D.C: International Energy Outlook 2009. Available at: http://www.eia.doe.gov/oiaf/ieo/world.html [Accessed 30 July 2009]

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Figure 5. World coal consumption by country grouping, 1980-2030

Source: Energy Information Administration, Natural Gas, [Online], Washington D.C: International Energy Outlook 2009. Available at: http://www.eia.doe.gov/oiaf/ieo/nat_gas.html [Accessed 30 July 2009]

Figure 6. World energy-related carbon dioxide emissions by fuel type, 1990-2030

Source: Energy Information Administration 2009, Natural Gas, [Online], Washington D.C: International Energy Outlook 2009. Available at http://www.eia.doe.gov/oiaf/ieo/emissions.html [Accessed 30 July 2009]

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Figure 7. LNG Global Portfolio.

Source: Royal Dutch Shell Plc., Investor Presentation ‘Building new heartlands, Managing recession challenges’ March 17, 2009. Available at: : http://www-static.shell.com/static/investor/downloads/news_and_library/2009_strategy_webcast_analysts.pdf

Figure 8. Stakeholder mapping: the power/interest matrix

Low High

Low

A

Minimaleffort

B

Keepinformed

HighC

Keepsatisfied

D

Keyplayers

LEVEL OF INTEREST

POWER

Stakeholder mapping: the power/interest matrix

Adapted from A. Mendelow, Proceedings of the Second InternationalConference on Information Systems, Cambridge, MA, 1991. Cited inJohnson, G. & Scholes K., (1997), Exploring Corporate Strategy, Prentice Hallpp 198Source: Stakeholder Analysis presentation by T. R. Rattray, 2009, CEPMLP, Adapted

from: Mendelow, A., (1991), “Proceedings of Second International Conference on Information Systems, Cambridge, MA. Cited in Johnson, G & Scholes K., (1997), “Exploring Corporate Strategy”, Prentice Hall, pp198.

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APPENDIX II

Royal Dutch Shell Plc., General Business Principles

There are eight main business principles that coordinate company ethical activity (Royal

Dutch Shell plc. 2005):

2. Economic Principle underpins the criteria for investment and divestment decisions as

well as the appraisal of the risks of the investment.

3. Principle on Competition stipulates the fair and ethical competition within the

framework of applicable competition laws.

4. Principle on Business Integrity states that Shell companies insist on honesty,

integrity and fairness on all aspects of our business and expect the same in their

relationships with all those with whom they do business.

5. Principle on Political Activities

a) of companies, i.e. Shell companies act in a socially responsible manner

within the laws of the countries in which they operate in pursuit of their

legitimate commercial objectives

b) of employees – reflecting the opportunity for individuals who wish to be to

engaged in activities in the community where it is appropriate in light of local

circumstances.

6. Principle on Health, Safety, Security and the Environment reflects a systematic

approach to achieve continuous performance improvement. These are the critical

business activities where set targets and standards are measured, appraised and

reported externally.

7. Principle on Local Communities reflects the aim to be good neighbours to local

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communities within which they work. One of the ethical goals is to carefully manage

the social impacts of business and to enhance the benefits to local communities

while mitigating any negative impacts from the activities.

8. Principle on Communication and Engagement is fundamental for the regular

dialogue with stakeholders. Company is committed to report on performance by

providing full relevant information to legitimately interested parties, subject to any

overriding considerations of business confidentiality.

9. Principle of compliance reflects the company’s commitment to all the applicable

laws and regulations of the countries in which Shell operates.

It is responsibility of the management to ensure that all company employees are aware of

these principles and behave accordingly. The application of these principles is underpinned

by a comprehensive set of procedure that ensures that all employees understand the

principles and confirm their act respectively. (Royal Dutch Shell plc. 2005).

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