May 8, 2019 / 10:17 AM / 12 days ago

Exclusive: Enbridge seeking at least eight-year oil shipping commitments on Canada Mainline, worrying small producers

WINNIPEG, Manitoba/CALGARY, Alberta (Reuters) - Canada’s Enbridge is asking oil shippers to sign at least eight-year contracts to move crude on its Mainline pipeline network, as it proposes to shift away from a monthly allocation system, people with knowledge of the matter told Reuters.

FILE PHOTO: Crude oil tanks at Enbridge's terminal are seen in Sherwood Park, near Edmonton, Alberta, Canada November 13, 2016. REUTERS/Chris Helgren/File Photo

The minimum term Enbridge Inc is seeking, previously unreported, is raising fears among small Canadian producers that they will lose out to bigger players, at a time when pipeline congestion has damaged the energy sector’s outlook.

Three sources with knowledge of the confidential talks confirmed the minimum term. Enbridge has previously disclosed that the maximum term is 20 years under a plan that still requires approval from Canada’s National Energy Board.

The company declined, in an email, to confirm the minimum term it is seeking, saying it is commercially sensitive information.

Locking shippers into long-term contracts offers Enbridge a chance to capitalize on delays to competitors’ plans to build pipelines, and secure future cash flow at a time when anxiety about market access is dominating headlines. The Alberta government took the rare step in January of ordering oil production cuts to boost prices.

Canada is the world’s fourth-largest crude producer but a shortage of pipeline capacity has contributed to an exodus of $20 billion in foreign capital from Alberta’s oil sands since 2017.

Under the proposed Mainline changes, producers fear being out-bid by oil sands majors such as Canadian Natural Resources Ltd and Suncor Energy Inc.

“If there is lack of pipe capacity, obviously the pipelines are in control and can dictate terms,” said Chief Executive Rob Morgan of Cona Resources Ltd, which produces up to 15,000 barrels of oil equivalent per day in Saskatchewan.

The length of commitments is the biggest concern for small producers, Morgan said.

Enbridge spokesman Jesse Semko said Enbridge hopes to meet the needs of all industry participants, but added that small producers account for an “extremely small” percentage of Mainline volume.

Semko said Enbridge has been engaging with the industry about the Mainline for more than a year, offering flexibility on both terms and volume.

He said Enbridge anticipates holding a 60-day bidding period, known as an open season, starting in July.

WIDENING THE DIVIDE

Enbridge’s Mainline, a web of pipelines connecting western Canada’s production basins with U.S. Midwest and eastern Canadian refineries, handles 2.85 million barrels of oil per day. It will add another 380,000 bpd once the Line 3 replacement project is complete.

The Mainline, whose first leg was built in 1950, is a common carrier pipeline, similar to a railway, on which all shippers theoretically have access to moving goods.

Shippers currently nominate how many barrels they wish to move monthly. Since demand always exceeds capacity, Enbridge rations space.

Some say large shippers game the system by over-estimating their needs, nominating so-called “air barrels”, so they are not left short when volumes are apportioned.

Canadian Natural Resources called the system “dysfunctional” in March, adding it contributed to congestion that ultimately prompted Alberta’s curtailments.

Enbridge president of liquids pipelines Guy Jarvis said in December the company would improve the Mainline by switching in 2021 to a toll system, known as “take-or-pay”, common to other pipelines. It would sell up to 90 percent of Mainline space to shippers in exchange for long-term, set volume commitments.

Shippers must then pay for the space whether they use it or not.

Such commitments are a problem for small producers because lenders view them as liabilities, said Tristan Goodman, president of the Explorers and Producers Association of Canada.

“It’s like taking out a lease on your building - you have to pay it, no matter what,” he said.

Small to midsize players are discussing how they might pool oil to meet Enbridge’s volume minimum, Cona’s Morgan said. Producers of 50,000 boepd or less account for 19 percent of western Canadian crude production, according to a Canadian Energy Research Institute calculation using CanOils data.

“(The Mainline) is magnitudes larger than some of the other pipelines and it’s the backbone of Canadian shipments,” said Saskatchewan Energy Minister Bronwyn Eyre. “That for Saskatchewan producers, smaller producers, is a real concern. It’s the unknown of what (take-or-pay) might mean.”

The Mainline’s switch “could definitely widen the divide,” between big and small, said Ryan Bushell, president of Newhaven Asset Management, which holds Enbridge shares.

Smaller producers could find it hard to meet Enbridge’s terms, although they would benefit indirectly if the change results in less price volatility, he said.

LEG UP ON COMPETITION

For Enbridge, the change could be a savvy move to tie up volumes while uncertainties persist about the future of TC Energy’s Keystone XL and the Canadian government-owned Trans Mountain expansion project.

“(Enbridge) wants to guarantee their cash flow and wants to strike now while everyone is freaking out about pipeline space,” said one industry source.

Take-or-pay models are more commonly used on new pipelines and the fact Enbridge is applying it to the decades-old Mainline shows how valued pipelines have become in Canada, Bushell said.

While big shippers are likely to welcome a more efficient system with contracted volumes, they must decide if they are willing to commit to the Mainline when there is still a chance Keystone XL and the Trans Mountain expansion will get built, said Wood Mackenzie analyst John Coleman.

“Shippers have got kind of a tricky situation,” Coleman said. “It’s going to be a harder-than-normal open season (for Enbridge) because of immense uncertainty around other pipeline projects looking to get built.”

Reporting by Rod Nickel in Winnipeg, Manitoba and Nia Williams in Calgary, Alberta; Additional reporting by Devika Krishna Kumar in New York; Editing by Denny Thomas and Lisa Shumaker

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