June 28, 2017 / 11:03 AM / a year ago

RPT-ANALYSIS-Oil pipeline firms' discounts rile clients, roil markets

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    By Catherine Ngai
    NEW YORK, June 28 (Reuters) - U.S. pipeline operators are
selling their underused space at steep discounts to keep crude
flowing - angering shippers and distorting an already opaque
market for oil trading.
    Pipeline firms such as Plains All American         and
TransCanada Corp          move about 10 million barrels of crude
around the United States every day.
    For pipeline operators to secure financing to build
pipelines and storage facilities, they need oil producers,
refiners and traders to sign long-term contracts to use space on
the pipelines.
    Pipeline firms can then use the guaranteed revenue from
those contracts as collateral. Firms shipping on the pipeline
have historically benefited from the long-term deals because
they offered a discount compared to the price of buying space
    But now, in the wake of a two-year oil price crash, pipeline
firms are still struggling to keep their lines full. So their
marketing arms are offering steep discounts to ad-hoc buyers of
pipeline capacity - which irritates customers whose long-term
contracts are now more expensive than spot purchases.
    "If I were a producer with a long-term contract, I would be
very unhappy at the present time,” said Rick Smead, managing
director of advisory services at RBN Energy in Houston. “But,
the reality is that when they (signed contracts), they were
    Eight pipeline operators contacted by Reuters for this story
declined to comment on their discounted spot pricing or the
secondary market for pipeline capacity.
    Some of those pipeline firms are offering prices as low as
25 percent of federally regulated rates, creating a secondary
market that undercuts shippers with long-term contracts,
according to four sources at companies that regularly ship on
the pipelines.
    For a graphic detailing how the discount deals work, see: tmsnrt.rs/2sJwW5E
    The discounts emerged after a global glut and crashing oil
prices caused many shippers to let their pipeline contracts
lapse or declare bankruptcy.
    More than a dozen producers, traders and refiners told
Reuters they were angry and frustrated that these discount deals
have become a mainstay. They declined to be named because they
were not authorized to speak publicly.
    The contract and regulatory framework of the industry makes
it difficult for them to bargain down their own long-term
contracts, leaving them paying more for the pipeline space than
occasional shippers competing to send oil through the same
    This gives the occasional shippers the edge in delivering
cheaper crude to potential buyers at the end of the line.
    TransCanada's 700,000 barrel-per-day Cushing-Marketlink
pipeline - which carries oil from Cushing, Oklahoma, to Texas
refineries - has long-term rates of between $1.63 and $2.93 a
barrel to transport heavy crude, while occasional shippers
typically paid $3.
    The industry downturn since 2014 has reduced demand from
occasional shippers to use the line at that price.
    Earlier this year, TransCanada's marketing arm offered
customers the right to send crude through the line at a tariff
of between 80 to 90 cents, traders using the line said.
    At the end of 2016, the rate offered was as low 30 to 40
cents. Even with the discounts, the line rarely reached 70
percent capacity.
    TransCanada declined to comment.
    Pipeline operators agree to charge specific tariffs for
sending oil through the lines when they sign long-term contracts
with oil shippers.
    Those rates are known as committed tariffs, and are subject
to approval by the U.S. Federal Energy Regulatory Commission
(FERC). The FERC also reviews the rates paid by occasional
shippers, known as uncommitted tariffs.
    The FERC declined to comment on the secondary market and on
the tariffs that the marketing arms of pipeline operators are
charging in that market.
    Most of the 10 largest U.S. pipeline operators - such as
Enbridge          and Enterprise Products Partners         -
have established their own marketing or trading arms that are
reselling space.
    Last year, TransCanada - which operates the massive Keystone
pipeline system - became the most recent player to open a unit
to trade oil and resell pipeline space.
    A few, such as Plains, have had marketing arms for more than
a decade, but in the past they had mostly just sold or traded
space that went unused by major producers who had committed to
long-term contracts.
    On lines such as TransCanada’s, big producers such as
ExxonMobil         and Suncor Energy        account for up to 90
percent of the flow in a pipeline. The remaining 10 percent is
sold to occasional shippers.
    Suncor and ExxonMobil declined to comment.
    With the three-year rout in oil, the volume accounted for in
long-term contracts has fallen, and the marketing arms have gone
from simply selling occasional space to needing to make big
deals to fill the lines.
    The practice has become so widespread that even pipeline
operators who had previously said they disliked the emergence of
the secondary market have now joined the fray.
    Magellan Midstream Partners        , for instance, in
November applied to the FERC to establish a marketing arm,
citing the more favorable terms other firms can offer customers.
The move came after Magellan had declined for years to run its
own operation out of fear that it would compete with its own
    The secondary market is formed by marketing firms signing up
to long-term contracts with their parent companies, the pipeline
owners. The marketing firms become like committed customers to
the line, and pay the same rates for the space as the firms with
long-term contracts.
    Those marketing firms book a paper loss for shipping the
volumes at a discount. But the sales keep the pipelines more
full - which makes the parent firm look better to investors, who
use pipeline volume as a key metric to judge those firms.
    Some companies have felt the pinch of the paper losses.
Genesis Energy LP         - a Houston-based midstream firm with
a market cap of $3.6 billion - said its supply and logistics
unit saw fourth-quarter revenues fall by 15 percent from a year
    The company’s Chief Executive Grant Sims, during a recent
earnings call, cited "volume cannibalization" for the decline,
saying that it was forced to compete in a market in which
participants were willing to lose money.
    Genesis declined to comment further to Reuters.
    Ed Longanecker president of the Texas Independent Producers
& Royalty Owners Association, said tensions between producers
and midstream firms become more strained in a low-price
environment, with producers "at the mercy of an extremely
competitive market."

 (Additional reporting by Liz Hampton in Houston; Editing by
David Gaffen, Edward Tobin, Simon Webb and Brian Thevenot)
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