Synthetic fuels, or "synfuels", are on the verge of achieving a scale of production not seen before in the Western Hemisphere. Synfuels, which are transportation fuels that are synthesized from carbonaceous feedstocks such as natural gas and coal, have been largely ignored historically in favor of petroleum-based fuels due to the lower production costs of the latter and lack of any competitive advantage for the former. The recent widespread adoption of shale gas production and subsequent increase in U.S. natural gas production (and fall in natural gas prices) has drastically improved the economics of syngas-to-liquid [STL] pathways. This article is the second in a series on synfuels production in the U.S. Whereas the first article examined the impact of shale gas on gas-to-liquid [GTL] pathways, the focus of this article is on the current economics of coal-to-liquid [CTL] pathways. The final article in the series will explore how widespread synfuels commercialization can be expected to affect long-term natural gas and coal prices.
A brief reminder on nomenclature
This article will use the same definitions as the first article in this series. Specifically:
Synfuels: Synthetic transportation fuels produced from fossil fuels other than petroleum. While biofuels fall under some definitions of synfuels, they are explicitly excluded here.
Syngas-to-liquids: Any pathway that converts syngas to synfuels. This can be confusing as "gas-to-liquids" is frequently used to define the conversion of natural gas to synfuels. Note that natural gas and syngas have different compositions despite the fact that both are in gaseous form: natural gas is largely methane, while syngas is largely carbon monoxide and hydrogen. The term syngas-to-liquids, as used here, refers to any pathway that converts syngas to synfuels, regardless of the source of the syngas: syngas from coal [CTL] or natural gas [GTL] are all STL pathways.
Coal-to-liquids: The basics
CTL pathways are at an inherent disadvantage to GTL pathways due to differences in feedstock. Natural gas (primarily CH4) and syngas (a blend of H2, CO, and sometimes CO2) both exist in gaseous states, eliminating the need to convert the feedstock to a gas via gasification as a process step. Instead, natural gas can be reformed into syngas at low expense relative to gasification. Coal (primarily C, with variable amounts of H2 and O2), on the other hand, is a solid, and as such must be converted into a gaseous state prior to reforming to syngas. Gasification incurs significant expense in the form of both equipment costs and process inputs . Coal's composition also hinders pathway economics because of its low amounts of H2 and O2, both of which are important parts of syngas (the O2 as either CO or CO2). Both O2 and H2O therefore serve as inputs during coal gasification, and procurement of the former incurs significant expense (either in the form of merchant oxygen or air separation equipment). Even then, the H2:CO ratio of the resulting "raw" syngas is too low for most synfuels production pathways . Further upgrading is necessary to increase this ratio to an acceptable level.
Depending on the desired H2:CO ratio, upgrading can be accomplished by combining the raw syngas with either pure H2 or natural gas-derived syngas, the latter having a much higher H2:CO ratio than coal- or biomass-derived syngas. While the use of H2 is more efficient, natural gas is the cheaper input of the two (although it does require reforming equipment for conversion to high-quality syngas). The water gas shift can also be employed by reacting H2O with CO in the syngas to yield H2 and CO2, although this process is very inefficient and increases pathway CO2 emissions (or capital costs via the purchase of carbon capture and sequestration equipment). Regardless of which upgrading method is used, the additional capital, operating, and energy costs required to produce coal-derived syngas of a similar quality to that produced from natural gas are substantial. Given the historical inability of natural-gas derived syngas to compete with petroleum as a transportation fuel feedstock due to the close relationship between both commodities' prices, it is readily apparent as to why coal, too, has only been able to compete as a transportation fuel feedstock during times of great politico-economic stress (best exemplified in Germany during World War II and South Africa during the later apartheid era).
The economics of coal-to-liquids synfuels
The historical prices of coal (NYSEARCA:KOL) and natural gas (NYSEARCA:UNG) have largely moved in tandem since 1986 (see chart). (Note that Australia coal prices are used here due to Appalachia coal prices being unavailable on YCharts; a review of recent prices for both coal types shows a strong similarity, however.) WTI crude prices are included here due to the strong historical correlation between U.S. petroleum and natural gas prices demonstrated in the previous article; as the below chart shows, all three commodities have historically moved in tandem despite serving as feedstocks for very different products (electricity and coke for coal and natural gas; gasoline and diesel fuel for petroleum):
A closer look at the data (this time using U.S. bituminous coal prices) shows that there has been a moderately strong correlation between annual coal and natural gas prices from 1949-2009:
(click to enlarge)
Correlation between nominal U.S. bituminous coal and natural gas prices, 1949-2009 (Source: EIA 2012).
This correlation should be noted because its suggestion of a close relationship between the prices of coal and natural gas does have support, not least due to the widespread use of both commodities for electricity generation. As investors in the coal mining sector have recently found, falling natural gas prices can put significant downward pressure on coal prices due to this substitution effect.
Finally, we see a strong correlation between the historical U.S. prices of bituminous coal and WTI crude (NYSEARCA:USO), which is to be expected given the relationship between natural gas and petroleum prices and the relationship between coal and natural gas prices shown in the previous chart:
Correlation between nominal U.S. bituminous coal and WTI crude prices, 1986-2009 (Source: EIA 2012).
As with GTL, the price of petroleum has historically discouraged the widespread commercialization of the CTL pathway in the U.S. despite the country being home to 28% of the world's proved coal reserves. Regulatory and environmental issues aside, higher petroleum prices have historically been associated with higher coal prices, thereby eliminating the profit margins that would have otherwise been provided by the former.
Shale gas...doesn't change the relationship?
Natural gas and petroleum prices began to diverge in 2009 and the gap between the two has only increased in the years since. This divergence has been driven by the newfound ability to exploit shale gas reserves, which has caused U.S. natural gas production to surge to levels not seen since the 1970s. This abundance of a cheap, (relatively) clean electricity feedstock has resulted in a subsequent decline in U.S. thermal coal consumption since 2009:
US Natural Gas Marketed Production (Wet) data by YCharts
In April 2012, the EIA reported that monthly natural gas-fired electricity generation equaled that of coal for the first time since it began keeping records. This fall in thermal coal consumption has put downward pressure on coal prices, which have moved far lower since the end of 2010 than one would expect based on their historical relationship with petroleum prices (with Australia coal again serving as a proxy for U.S. coal):
WTI Crude Oil Spot Price data by YCharts
Thus far coal's story has largely mirrored that of natural gas. The projected future is not the same, however. Whereas the previous article in this series found that the divergence between natural gas and petroleum prices was expected to grow through at least 2035, the EIA is not projecting the same to happen with coal. Indeed, it has been steadily increasing its long-term projected thermal coal prices since 2008:
Projected prices for U.S. coal employed as electric power feedstock (Source: EIA).
More importantly for the purposes of CTL, this increase in expected U.S. coal prices is being reflected by a decrease in expected CTL production, which the Annual Energy Outlook of 2012 isn't projecting to be responsible for large-scale coal consumption (8+ million tons) until 2016, as opposed to the 2011 date projected in the AEO 2008. While U.S. coal consumption is now expected to remain virtually flat over the next two decades and therefore doesn't explain this increase in projected prices, U.S. coal exports are also expected to grow at a 3% annualized rate over the same time period:
U.S. projected annual coal exports (Source: EIA).
While this is good news for coal producers (at least those that can survive the near-term headwinds), it doesn't bode well for adopters of the CTL pathway. Indeed, it suggests that those companies that began constructing CTL projects during the previous decade are now facing a more pessimistic economic environment than they had originally expected.
CTL in the U.S.
In 2008, Rentech (NASDAQ:RTK) purchased a former International Paper industrial site near Natchez, MS, and announced plans to convert it into a 250 million gallon per year [MGY] synfuel facility utilizing coal as part of a mixed feedstock to produce jet fuel via Fischer-Tropsch synthesis. The project was cancelled in early 2012 amid concerns that the company would not be able to acquire sufficient financing for it.
DKRW Advanced Fuels subsidiary Medicine Bow Fuel & Power has partnered with Arch Coal (NYSE:ACI) to construct and operate a 322 MGY methanol-to-gasoline [MTG] facility in Wyoming, with an expected completion date of 2014. The project will employ ExxonMobil's MTG technology, which was also employed by a commercial-scale GTL project in New Zealand during the 1980s.
A number of additional CTL projects of varying sizes are currently under consideration in the U.S.; a list of them is available here.
The scale of these CTL projects, while large relative to biofuel projects, is relatively small compared to the GTL projects covered in the previous article. This could be due to a number of factors, including location, unfavorable feedstock prices, regulatory barriers, and pathway hurdles (such as the aforementioned gasification requirement).
While CTL projects have a head start on GTL projects in the U.S., the current and projected economic environments aren't nearly as attractive for the former as they are for the latter. While the recent increase in U.S. natural gas production via shale gas extraction has put downward pressure on the prices of both natural gas and coal, the two commodities are expected to encounter very different demand environments over the next two decades. Overseas natural gas transportation is very expensive relative to coal and exports of the latter are expected to increase greatly in response to low short-term prices. While this is good news for U.S. coal producers, it will cause coal prices to recover more quickly than natural gas prices, a development that will favor GTL projects over CTL projects. While the present combination of depressed coal prices and sustained moderately high petroleum prices is attractive, the CTL pathway will have less future expansion room in the U.S. than the GTL pathway.
The next article in this series will examine the microeconomics of the GTL and CTL pathways, paying close attention to how sensitive each is to macroeconomic conditions and how much fossil fuel-derived STL production can occur in the U.S. before rising feedstock prices inhibit further pathway growth.
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