8 Economic analysis

Natural gas for ship propulsion in Denmark

8.1 Summary of findings

The economic analysis of natural gas in ferries and short sea shipping indicates that there may be a positive case for LNG terminals in selected ports and in the most fuel consuming ferries and cargo ships. For these, we expect the savings in fuel cost to cover the investments in terminals and ships. However, this result is quit sensitive to the assumptions made.

For each of the four scenarios a first, rough estimation is made of the total investment needs in order to use natural gas as fuel, and compare this to the fuel savings foreseen. Although there are uncertainty to the results that stems from the assumptions made, two conclusions can be drawn from this analysis.

First, focus should be on investments in the most fuel consuming ports and ships. The case for natural gas gets increasingly more positive as the number of ports and ships are reduced. In the three broadest scenarios, the investments in gas equipment cannot be recovered by the savings in fuel consumption. This is only the case in Scenario 4, the most limited scenario.

Secondly, the result in Scenario 4 is quite sensitive to the assumptions made about the cost of the initial investments and to the expected future spread between gas and oil prices. If the investment in retrofitting existing ships and the extra cost of equipping new ships with gas engines is 20% higher than assumed in the base case, the investment cost cannot be covered by the fuel cost savings. Also, a reduced spread between gas and oil prices can change the conclusion. If the spread in prices between MGO and LNG is reduced from the present level to the level expected in the forecasts by the Danish Energy Agency, the economic analysis indicates that it is most profitable to stick to diesel.

Hence, if the there is a political interest in increasing use of natural gas in ferries and short sea shipping in Denmark, public intervention may be needed. Inspiration for public intervention can be obtained from Norway, whereas direct public intervention to support LNG has focused on market demand issues in Sweden. In Norway, the NO_x Fund supports investments aimed to reduce NO_x emissions. Such a mechanism can ensure financing of LNG investment.

8.2 Business case for natural gas

Investments on ships, ports and infrastructure are needed in order to use CNG or LNG as a fuel on Danish ferries and short sea shipping vessels. These investments may turn up profitable as significant fuel savings can be foreseen – at least if the present difference in oil and gas prices is maintained.

The aim of the business case presented in this chapter is to gain insight into whether the investments can be expected to be covered by the fuel cost savings. A first, rough estimation of the total investment needs is presented if the Danish ferries and cargo ships are to use natural gas as fuel, and compare this to the fuel savings foreseen. The investments cover both bunker facilities in ports and investments in tanks and engines that will allow the ships to use natural gas.

Here, the economic case is presented of each of the four scenarios considered in the previous chapters. This highlights the importance of the number of ports and ships in the economic analysis. To review the four scenarios, the number of ports, ships and LNG use per port and vessel in each of the four scenarios is given in the table below.

Table 8‑1 Four scenarios: Ports, vessels and use of LNG
	Ports	Vessels	Total LNG, ton per year	LNG per port, ton per year	LNG per vessel ton per year
Scenario 1	55	143	436,781	7,941	3,054
Scenario 2	45	85	394,798	8,773	4,645
Scenario 3	23	105	403,067	17,525	3,839
Scenario 4	13	47	361,084	27,776	7,683

Note: The economic analysis is based on LNG^[44]

It is concluded that the investment may be covered by the fuel cost savings in Scenario 4. This scenario has the lowest level of investments combined with ports and vessels with high fuel consumption. Hence, investing in gas is likely to be profitable for the most fuel consuming ferries and short sea shipping vessels. This is also consistent with the choice of Mols-Linien to use LNG as fuel in some of their ferries.

However, the conclusion depends on the price difference between oil and gas, and is based on the present spread. If this spread diminishes, the benefits of using LNG rather than diesel will be reduced, and likewise a larger spread, which many expect due to rising MDO and MGO prices, will enhance the profitability of LNG relative to other marine fuels. Industry interviews confirm that the uncertainty of the future gas price plays a key role when considering investing in gas facilities.

The analysis is based on information regarding LNG cases. We have carried out research on the use of CNG, Compressed Natural Gas, in sea transport. This could be an interesting choice for Denmark as compressing natural gas to CNG is a cheaper process than liquefying the gas to LNG. However, the experience around the world is limited as very few ships operate on CNG today. The technology is still to be developed for use in large scale commercial shipping and presently there are no applicable examples of CNG terminals and ships operating on CNG to use as documentation in the business case for natural gas. Therefore, in the economic analysis LNG is considered.

8.2.1 Investments in ports

Bunkering facilities in ports are needed in order to distribute natural gas to the users. It is assumed that terminals are needed in all port – and in some ports there will be both a terminal for ferries and one for cargo ships. In order to estimate the cost of such terminals, the most recent examples of similar investments are used.

One example is the terminal in Sarpsborg in Norway^[45]. Here a terminal with the capacity of 3.500 m³ is build with the estimated cost of 82 mDKK (11 mEUR). The terminal to be build by Mols-Linien in Sjællands Odde has a capacity of 5.000 and is estimated to cost around 100m DKK (13.5 mEUR), cf. table below.

Table 8‑2 Cost of terminals and assumption in business case
Ports	Capacity, m³	Investments, mDKK	Use in business case, mDKK
Terminal	3,500 -5,000	82-100	91

Note: 91 mDKK equals approximately 12 mEUR

In the business case for LNG, it is assumed that a LNG terminal will serve each port and that the investment to one terminal amounts to 91 m DKK (12 m EUR). To the infrastructure investments could be considered to add a liquefaction plant. Such a liquefaction plant could produce LNG from natural gas. However, importing LNG from the global market is quite likely to be economically advantageous due to high investment cost. Therefore, it is assumed that the LNG is bought on the global market, and the cost of delivering LNG to the terminals in the ports is included in the fuel price.

8.2.2 Investments in ships

Investments in ships amount to the largest part of the investments needs. New installations are to be made on existing ships, retrofits, that is tanks for LNG and new engines that can use natural gas as fuel. Also, new ships are more expensive when they use gas as a fuel rather than diesel.

The level of investment depends on the size of gas tanks and the power and types of the engines installed. These cost are ship specific, depending on the initial design of the ship, for instance some retrofitted ships needs hull reinforcements.

In order to estimate the extra cost of equipping ships for LNG, information have been gathered on a number of cost estimates, cf. table below. This cost referred to in the table below includes gas-fuelled engines, LNG tanks and systems, steel work, and may also include other costs such as risk analysis.

Table 8‑3 Investments cost on ships and assumptions in business case
Ships	Installed power, mW	Extra investments, mDKK	Use in business case, mDKK	Assumed distribution
Newbuildings	2 -8	15-80	29	25%
Retrofits	2-20	40-100	40	75%
Total	-	-	32	100%

Note: 32 m DKK equals approximately 4.3 m EUR

Generally, retrofits are more expensive than newbuilds, but on both newbuilds and retrofits there is a large spread both on the installed power and on the extra investments due to the use of LNG. Some of the extra investments in the higher end may be due to so-called “pioneer work”^[46], meaning that at lower level of investments can be expected as the market gets more mature and a larger number of vessels are equipped with tanks and engines for natural gas.

The extra investment costs of using natural gas rather than diesel is estimated to 32 mDDK (4.3 mEUR) on average. In the business case the assumption is that the 75% of the vessels are retrofitted whereas the remaining 25% are newbuilds.

8.2.3 Expected fuel cost savings

The low level of prices on natural gas makes natural gas an interesting choice for private ferry and shipping companies. With natural gas these companies can reduce operating cost while having a greener profile of their activities. Further, more strict regulation on maritime emissions implies that the alternative to natural gas becomes more expensive. In 2015, all ships in SECA if the North Sea, including Denmark, will have to use low sulphur fuel (0.1%), for instance MGO 0.1%. Therefore, in the business case, the cost of LNG is compared to MGO.

The price for LNG is based on experience from long-term contracts and includes delivery (DES). The MGO price is average traded price in 2010 and also includes delivery. Whether LNG is profitable compared to MGO depends on the price spread between the two types of fuel. In the economics analysis, the present spread of LNG and MGO is used, which results in savings in fuel cost of 28% using LNG.

Table 8‑4 Differences in price of LNG and MGO in business case
Fuel	Price, DKK/ton (EUR/ton)
LNG	2,500 (340)
MGO	3,960 (533)

Note: Due to the difference in heating values, 14% more tonnes LNG than MGO is needed. The extra cost is included in the scenarios. Source: DNV and Incentive Partners.

To compare the savings of using LNG rather than MGO over a period of time, an investment period of 25 years is defined. Thus, in this study it is assumed that the fuel saving will benefit the investor of terminals and gas fuelled ships in 25 years.

8.2.4 Result of the business case

The result of the economic analysis depends on the scenario considered. This indicates that using natural gas as fuel will be profitable for some ferries and short sea shipping vessels in Denmark. Scenario 1, in which all ferries and short sea shipping vessels use natural gas as fuel, has a negative outcome. This indicates that use of gas as fuel in all vessels will only be implemented if governmental intervention makes it more profitable to invest in a natural gas solution.

The scenarios differ in number of ports with terminals, number of vessels equipped with gas tanks and engines and the use of fuel. In three of the four scenarios, the investments in ports and ships exceeds the expected saving in fuel costs, cf. figure below.

Figure 81 Economic analysis of four scenarios (1 bn DKK equals 1.000 million DKK)
Figure 8‑1 Economic analysis of four scenarios (1 bn DKK equals 1.000 million DKK)

The investments are carried out initially, whereas the fuel cost savings are obtain on a yearly basis in the period where the terminals and ships are in use. In order to compare the initial investments with the expected cost saving, a discount rate of 10% is used. This is considered to be an acceptable rate of return for a private investor, meaning that the investment is considered profitable by an investor if fuel savings exceed the investments; the black part of the graph above is larger than the sum of the red and blue parts.

Only in Scenario 4, the expected fuel savings cover the initial investments. Hence, the case for natural gas is increasingly more profitable going from Scenario 1 to 4.

Investments in ports and ships are reduced from Scenario 1 to 4, while the fuel consumed per investment unit is increased. Although the number of ports and vessels are more than halved in Scenario 4 compare to Scenario1, the consumption of LNG in Scenario 4 is 83% of the consumption in Scenario 1. This indicates that the initial investments are covered by the saved fuel cost when the most energy intensive ports and vessels turn to natural gas.

In Scenario 4, both ferries and cargo ships are considered to use natural gas. Separating the results for ferries and cargo ships indicates that use of natural gas is more likely to be profitable for ferries than for cargo ships, cf. table below.

Table 8‑5 Scenario 4: Separate results for ferries and cargo ships
	Scenario 4 - Base case	Ferry only	Cargo only
Investments in ports and ships, bn DKK	2.9	1.8	1.1
Savings on fuel cost, bn DKK	-3.2	-2.6	-0.6
Total cost – NPV, bn DKK	-0.3	-0.8	0.5

LNG per port ton per year	27,927	33,193	15,588
LNG per vessel ton per year	7,725	11,064	3,118

Note: 1 bn DKK equals 1.000 million DKK,. In Euros, the total cost for Scenario 4 base case is -40 m EUR.

8.2.5 Sensitivity analysis of Scenario 4

The result of the economic analysis of Scenario 4 depends on the level of investments and the expected fuel savings. In order to test the robustness of the indications, it is investigated how the basic assumptions on these parameters impact the result.

Firstly, the same level of investments in gas tanks and engines for ferries and cargo ships are assumed. Though the variation in investments may be high, it is likely that investments in ferries will exceed the investment in vessels for short sea shipping.

The result of Scenario 4, with higher investments for ferries and lower for cargo ships, indicates a result for Scenario 4, which does not differ significantly, cf. Table 8-6.

Table 8‑6 Scenario 4: Alternative investment level (1 bn DKK equals 1.000 million DKK)
	Scenario 4 – Base case	Scenario 4 - alternative investment level
Investments in ports and ships, bn DKK	2.9	3.0
Savings on fuel cost, bn DKK	-3.2	-3.2
Total cost – NPV, bn DKK	-0.3	-0.2

Note: Investments in ferries are assumed to be 20% than in the base case, and investments 20% lower. In Euros, the result of Scenario 4 – alternative investment level is -27 m EUR.

However, the result does depend on the level of investment assumed. If investments in both ferries and cargo ships are 20% higher in reality than expected in the base case of Scenario 4, the fuel savings cannot be expected to cover the initial investment cost.

Secondly, the expected future spread between oil prices and gas prices determines the fuel cost saving and hence is a key parameter when deciding upon MGO or LNG fuelled ships. The result of Scenario 4 does depend on the expected difference between prices of natural gas and oil, cf. table below, where the results are indicated in the base case and three alternative cases of the spread.

Table 8‑7 Scenario 4: Impact of the difference between MGO and LNG prices (1 bn DKK equals 1.000 million DKK)
	Base case	Low LNG price	DEA forecast	High LNG price
Investments in ships, bn DKK	2.9	2.9	2.9	2.9
Savings on fuel cost, bn DKK	-3.2	-5.6	-2.2	-0.7
Total cost - NPV, bn DKK	-0.3	-2.7	0.7	2.2

Fuel cost savings using LNG	28%	50%	19%	6%

Note: Low LNG price signifies that LNG becomes 30% cheaper compared to MGO, high LNG price signifies that LNG becomes 30% more expensive compared to MGO. DEA forecast follows the Danish Energy Agency who expects LNG prices have increased 12% more than MGO in 2015.

The Danish Energy Agency (DEA) carries out forecast of future gas and oil prices. They expect that the prices of natural gas will increase more than prices of MGO and other oil products in the coming years. In 2020, for instance, the DEA expects natural gas price to have increased 12% more than the oil prices. This forecast is used in the column called DEA forecast in the table above. In this case the savings in fuel cost cannot cover the initial investments.

Two other cases are presented in the table. First, when a lower price on LNG compared to MGO is assumed, the case of LNG gets more convincing. This is not unrealistic as oil products with low levels of sulphur are likely to meet at higher demand leading to higher prices on these products. Second, when a higher cost of LNG compared to MGO is assumed, the case for LNG disappears.

[44] Source: LITEHAUZ and Incentive Partners.

[45] Cf. http://www.gasnor.no/14/Nyhet.aspx

[46] Cf. Det Norske Veritas: LNG as fuel. Rapport for Miljøstyrelsen og Danske Rederiforbund, 2010.