LNG

Business Context and Reporting Period

Company: Cheniere Energy, Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2003
Business Overview: Cheniere is a Houston-based company primarily engaged in the development of liquefied natural gas (LNG) receiving terminals on the U.S. Gulf Coast and oil and gas exploration in the Gulf of Mexico. The company operates two segments: LNG Receiving Terminal Development and Oil and Gas Exploration and Development. As of the reporting date, the company had no operating LNG terminals; revenues were derived solely from overriding royalty interests in oil and gas wells.

Key Financial Metrics

Note: The company reported no production costs in 2003 as revenues were generated from non-cost bearing overriding royalty interests.

Material Changes vs. Prior Period

• Revenue Growth: Revenues increased 175% to $657,467 in 2003 from $239,055 in 2002. This was driven by increased production volumes (123,494 Mcfe vs. 94,441 Mcfe) and a significant rise in average natural gas prices ($5.33/Mcf vs. $2.58/Mcf).
• Net Loss Improvement: Net loss decreased to $5.29 million from $5.63 million. This improvement was primarily due to a $4.76 million gain on the sale of LNG assets (Freeport project) and a $423,454 gain on the sale of a limited partnership interest, which offset increased development expenses.
• Liquidity Position: Working capital turned positive to $155,526 in 2003, compared to a deficit of $1.41 million in 2002.
• Accounting Change: Effective January 1, 2003, the company switched from the equity method to the cost method for its investment in Gryphon Exploration Company due to a loss of significant influence.

Guidance, Outlook, and Risks

Outlook and Management Commentary

• LNG Strategy: Management believes LNG will become a competitive supply alternative in the U.S. if natural gas prices are sustained at or above $3.00 per Mcf. The company is developing three major terminal sites: Freeport (Texas), Corpus Christi (Texas), and Sabine Pass (Louisiana).
• Freeport LNG: The company sold a 60% interest in the Freeport project to Freeport LNG Development, L.P. in early 2003, retaining a 30% interest. ConocoPhillips signed an agreement in December 2003 to reserve 1 Bcf/day of capacity and provide the majority of construction financing. Commercial start-up is expected in the second half of 2007.
• Capital Needs: The company anticipates needing substantial additional funds to execute its LNG development plan. In January 2004 (subsequent to year-end), the company raised approximately $13.9 million via a private placement of common stock.

Risks and Contingencies

• Regulatory Approval: Construction and operation of LNG terminals are contingent upon obtaining approvals from the Federal Energy Regulatory Commission (FERC) and other agencies. Failure to obtain these permits could render investments unrecoverable.
• Market Risk: The business model relies on sustained high natural gas prices. A decline below $3.00/Mcf could negatively affect the economic viability of LNG imports.
• Liquidity: The company has a history of recurring losses and relies on equity issuances, debt, and partner contributions to fund operations. There is a risk that additional capital may not be available on acceptable terms.
• Exploration Risk: Oil and gas exploration involves significant risk of dry holes and failure to find commercially viable reserves.

Investor Verification Checklist

• Funding Status: Verify the closing of the ConocoPhillips financing agreement for the Freeport LNG terminal and the receipt of the $10 million capacity reservation fee.
• Regulatory Milestones: Monitor the status of FERC permit applications for the Corpus Christi and Sabine Pass LNG terminals, which were submitted in December 2003.
• Capital Adequacy: Assess the sufficiency of the $13.9 million raised in January 2004 to cover ongoing development costs for the three LNG sites and exploration activities.
• Reserve Estimates: Review the independent engineer's report (Sharp Petroleum Engineering) regarding the company's proved oil and gas reserves, noting the PV-10 value of approximately $4.28 million.
• Partnership Obligations: Confirm the funding commitments from partners (e.g., BPU LNG for Corpus Christi) to ensure Cheniere is not required to make significant additional capital contributions.