TKGSY Tokyo Gas Company Ltd (PK)

Hitachi Ltd. (6501.TO) and Toyo Engineering Corp. (6330.TO) are targeting a niche market that could meet a chunk of Asia's future natural gas consumption: small-scale liquefied natural gas plants.

The Japanese technology firms are betting that gas demand will grow so quickly that tapping major deposits alone won't be enough, and there will also be a need to focus on small-scale natural gas reserves, especially in Southeast Asia.

However, that strategy has several challenges. Small-scale plants will have to compete with several other new technologies that could swell regional gas supply, including the production of gas hydrates.

In addition, major energy consumers such as China are seeking to replicate the U.S. shale gas boom, which could drive down already-low natural gas prices further and throw the economics of small-scale LNG projects into doubt.

Tighter regulation of oil and gas exploration in the wake of BP PLC's major oil spill in the U.S. Gulf of Mexico could affect the viability of projects, while the cost of raw materials like steel used in plant construction has been on an upward curve in recent years.

Hitachi and Toyo officials are confident that they can overcome such challenges. Project costs can be kept down by shortening the design phase through the use of existing technology, such as Hitachi's electric motor and Chart Energy & Chemicals Inc.'s liquefaction processes, they say.

"Global demand for natural gas will continue rising, as natural gas is the most realistic source of clean energy. We can help promote" this trend by exploiting small- to medium-sized gas reserves, said Toshihiko Ito, Chief Strategic Officer of Hitachi's social infrastructure systems company.

Hitachi and Toyo say their technology is suitable for the development of gas fields with reserves of between 500 million cubic feet and 5 billion cubic feet of gas.

There are more than 1,300 gas fields of this size across the world, according to consultancy IHS.

To put that in context, the Gorgon field--Australia's largest gas resource--contains an estimated 40 trillion cubic feet of gas.

Hiroshi Sato, general manager of Toyo's international sales and marketing, said a key difference between small-scale and larger projects was in approach.

Plants for the biggest projects are designed specifically for each gas field, with capacity tailored to the expected output.

But smaller projects have an advantage as planners "can decide on capacity first, and build a plant using ready-made modules," Sato said.

It takes about 35 months to design and build a small LNG plant, which is roughly half the time it takes to build a large terminal, he said.

In June, Hitachi and Toyo began a study for Eastern Star Gas Ltd. (ESG.AU) on the feasibility of an LNG export terminal at Newcastle, Australia's New South Wales state.

Eastern Star says the first stage of the project will have an annual capacity of 1 million metric tons of LNG, with construction costs at A$1 billion excluding a pipeline. First LNG shipments are targeted for 2014.

This plan is much smaller than the Chevron Corp.-led Gorgon project, which is estimated to cost A$43 billion and has a designed capacity of 15 million tons of LNG annually.

Hitachi and Toyo Engineering officials declined to discuss costs. But Hitachi's Ito said modular LNG technology "is more realistic than conventional" technology for an LNG terminal with an annual capacity as small as 1 million tons.

Marketing could be difficult as LNG produced from coal seam gas contains a lower calorific value per volume than conventional supply, meaning it produces less energy when burnt.

While this calorific value can be lifted by spiking with products such as ethane and butane, many LNG buyers in Japan continue to prefer imports of conventional supply. Japan is the largest LNG importing country by volume who represents roughly 40% of global demand.

However, Hitachi's Ito and Toyo Engineering's Sato said they aren't overly concerned, as some Japanese gas importers and users in other Asian countries like China are willing to use LNG made from coal seam gas.

Tokyo Gas Co. (9531.TO), Japan's largest gas utility by sales volume, signed a preliminary agreement with BG Group PLC (BG.LN) in March to buy LNG from its proposed terminal at the port of Gladstone in Australia's Queensland state. The LNG will be made from coal seam gas.

By Mari Iwata, Dow Jones Newswires; 813-6269-2798; mari.iwata@dowjones.com

(Ross Kelly in Sydney contributed to this article)

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