August 2015: Rapid Growth Spurs Historic Demand for Midstream Infrastructure

The rapid growth of oil and gas production in North America between 2009 and 2014 spurred a cycle of historic demand for midstream infrastructure – the gathering, processing and pipelines that bring crude or natural gas liquids from the wellhead to distribution centers or refineries. According to The Bain Brief, March 25, 2015: “For midstream companies, capital expenditure as a percentage of enterprise value increased from 15% between 2004 and 2007 to about 75% for projects forecast between 2013 and 2015. To fund this expansion, the number of master limited partnerships (MLPs) exploded, with market capitalization increasing from $60 billion in 2005 to more than $350 billion by 2014. In this infrastructure supercycle, midstream companies were sprinting to catch up with the shale gas and tight oil supply shocks, and to alleviate bottlenecks.” (http://www.bain.com/publications/articles/preparing-for-the-coming-wave-of-consolidation-in-midstream-oil-and-gas.aspx)

Further to this point, consider this article that appeared in BIC Magazine, April 01, 2015: (http://bicmagazine.com/phillips-66-chris-chandler-pipelines-exports):


 

According to Chris Chandler, Phillips 66 general manager, Midstream Commercial & Business Development, there is currently a logistics transformation underway as a result of the shale revolution. “I like to look at actual data rather than forward-looking trends because it’s real information,” he said. “It’s something that’s already happened. There has been a dramatic increase in the production of natural gas, crude oil and NGL. The shale revolution is what’s driving this. It’s a great example of American ingenuity. We like to think of it as the intersection of technology and geology. The technology side is horizontal drilling and hydraulic fracturing, which is unlocking vast shale reserves that were previously thought to be uneconomical to produce. In December, year-over-year crude oil production was up 16 percent to 9.1 million bpd. That’s the highest level of any month since February 1986.”

Chandler recently spoke at the Louisiana Mid-Continent Oil and Gas Association Annual Meeting about the incredible changes occurring in industry. Chandler, who earned a Bachelor of Science in mechanical engineering from the University of California, Los Angeles, began his career with Phillips 66 at its Los Angeles refinery. He served in a variety of positions, including project engineering, continuous improvement and operations engineering. Prior to his current role, Chandler served as manager of the Los Angeles refinery. He also served as manager of the Phillips 66 Alliance Refinery in Belle Chasse, Louisiana, and operations manager of the Phillips 66 Wilmington Refinery in California.  “Something I like to think about is the supply versus demand balance for materials in the U.S.,” he said. “It’s important to understand that because at some point we’re going to be producing more than we consume as a country. That’s when we’ll be turning to exports. And if we don’t embrace exports, the drill bit could stop turning.”

The logistics challenge

The additional production is coming from the Bakken Shale in North Dakota, which went from virtually no production to well over 1 million bpd at the end of 2014, according to Chandler. “The Eagle Ford Shale is growing dramatically,” he said. “The Marcellus Shale and Utica Shale are also growing dramatically, primarily with gas. We’re seeing this in different areas of the country. To enable this production, materials have to get to the marketplace. That’s why logistics is so important and why we’re seeing so much significant change in the logistics base. “There isn’t a pipeline that connects every shale play to every marketplace. That’s where the logistics challenge comes into play. Rail is really increasing, and trucks are being used much more than people might recognize to transport oil to collection points and ultimately get oil into pipelines and to a refinery, terminal or somewhere else it can be used.”

Chandler said there is an existing world-class logistics system the U.S. has spent 200 years building: the rail system. “If you think about the role rail plays, rail is something that’s already there,” he said. “It’s relatively quick. It provides tremendous flexibility. You can send your first train one week to the East Coast. You can send your second train the next week to the West Coast and your third train the next week to the Gulf Coast. The market is wherever the demand is and where you as a producer might get the best net back for your crude oil. So it’s a tremendous system. You can see that wherever the shale play is, it’s likely the rail logistics system is already there – ready and waiting. “If you think about what happened just in 2013, nearly a million barrels were moving out per day by rail. And the reason it was doing that is there simply wasn’t the pipeline infrastructure to get materials to the market. If you compare it to the Permian Basin, for example, the Permian Basin has existing infrastructure.”

One must also consider the time required to lay pipe across the U.S. “It’s a tremendous undertaking,” Chandler said. “From a Phillips 66 perspective, we just started crude offloading terminals at our refinery in New Jersey and our refinery in northwest Washington state. That’s where we’re utilizing this. And a number of our competitors are utilizing this as well. “Crude by rail experienced dramatic growth in the first half of 2014 with 900,000 bpd being moved by railcar. From a consumption standpoint, that is five large refineries worth of crude oil that is moving by rail. That is about 11 percent of the U.S. crude production moving by rail.”

Phillips 66 recently completed an assessment of the number of existing petroleum rail terminals in different states. The assessment showed North Dakota has over 1,400 existing terminals to load or unload crude oil. Texas has well over 1,000. California, Washington, New Jersey and Louisiana also have large numbers of existing terminals. “It’s likely if production growth continues, rail will continue to play a role there because of the advantages of speed, flexibility and lower cost,” Chandler said. And whether crude is being moved by rail, pipeline, barge or ship, it must be done safely. Crude by rail is currently getting a lot of attention to make sure it’s being done safely and will continue to be done safely. “At Phillips 66, we don’t do anything unless we do it with operating excellence,” Chandler said. “And what does operating excellence mean to us? It is personal and process safety. It is environmental stewardship and compliance. It is focusing on reliability. It is driving costs in operating efficiency. This underlies every decision we make and every step we take as a company.

“In turn, the industry has worked to build railcars that exceed the standards to transport crude oil. But, at the same time, our regulators are looking at new standards. Those new standards are expected in May or June. What’s likely to happen is there will be a requirement that crude oil moved in a railcar be moved in a car that’s similar to the new cars being produced today. But there may be additional requirements beyond that. What the industry has asked for is an appropriate period of time to be able to retrofit the railcars without significantly disrupting business. That is something that’s being discussed and watched very closely.”

Train speed is also something regulators are thinking about, as well as how the materials are classified. “If you think about transporting anything by truck or train, you always see a placard on the side of that car,” Chandler said. “It’s very important the material that is in the truck or railcar is accurately classified and the placard accurately reflects what’s in the car. Therefore, if there is an accident, there is an appropriate type of emergency response applied.”

U.S. gas demand

According to Chandler, some people believe U.S. gasoline demand has peaked and will never reach the level it once did. That is where U.S. refineries have taken advantage of exporting products to demand areas around the world where growth is occurring and new refineries aren’t being built fast enough. “The U.S. refineries are playing a role in satisfying that demand,” Chandler said. “Exports are really filling the gap. From 2009 to 2013, utilization was on its way back up because of the ability of U.S. refineries to export and fulfill that demand around the globe. If not for exports, there would be quite a few refineries we wouldn’t need to satisfy our demands as a country. “U.S. refineries are finding themselves in a tremendous position from a competitive standpoint. The shale revolution has dramatically increased the amount of crude oil available in the U.S. Over the past few years, crude oil has been an economically advantaged process over foreign imports, which is how we used to fill up our refineries. The other thing that is happening along with that is the manufacturing revolution with natural gas prices. Low natural gas prices benefit refineries from a cost standpoint.”

Chandler said he believes the future will involve an all-of-the-above situation. “We’re going to see more pipelines being built and additional expansions,” he said. “Depending on gasoline and diesel demand in the U.S., exports are going to continue to play a role. And our company and other companies are talking about export infrastructure. Phillips 66 has just entered a joint venture with Energy Transfer Partners to build a pipeline from the Bakken Shale to the Gulf Coast. I think we’re going to continue to see pipelines play a role.”  Ultimately, it is expected if crude oil production continues to grow, imports will continue to fall. “At some point if we produce more crude oil as a country than we consume and if we want to continue that positive benefit to the economy – that job creation machine – we’re going to want to talk seriously about crude oil exports,” Chandler said.

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