Last week, Cactus II filed a petition with FERC requesting approval of the terms of a proposed open season to market capacity on its pipeline that is being made available through the restructuring of its original anchor shipper contract.
Why does it matter?
As explained by Cactus II, over the last year, the COVID-19 pandemic has caused a reduction in production forecasts by approximately 2,000,000 barrels per day (BPD), while at the same time Permian Basin pipeline takeaway capacity has increased from 4,000,000 BPD to 8,000,000 BPD.
What’s our view?
This tremendous change will continue to impact other pipelines serving the Permian Basin as well as the transportation rates being offered as incentive rates across the entire crude pipeline marketplace. Arbo’s new liquids commerce platform allows our customers to quickly assess shifting market dynamics related to liquids transportation rates across the U.S. and Canada.
Subscribers to our Arbo alerting service would have noticed a filing last week by Plains All American’s Cactus II pipeline in which it asked FERC to approve the terms of a proposed open season to market capacity on its pipeline that is being made available through the restructuring of its original anchor shipper contract. As explained by Cactus II, over the last year, the COVID-19 pandemic has caused a reduction in production forecasts by approximately 2,000,000 barrels per day (BPD), while at the same time Permian Basin pipeline takeaway capacity has increased from 4,000,000 BPD to 8,000,000 BPD.
Today we show how using our Arbo liquids platform allows our customers to quickly assess how this tremendous change in the marketplace has impacted, and likely will impact, other pipelines serving the Permian Basin, and how it may already be impacting transportation rates that are being offered through incentive rates across the entire crude pipeline marketplace.
Cactus II Filing at FERC
When the Cactus II Pipeline made its initial filings with FERC in 2018, production in the Permian Basin was expected to increase from 3,100,000 BPD to 4,000,000 BPD by the end of 2019. Cactus II was developed to help alleviate a pipeline constraint created by that growth by providing approximately 585,000 BPD of additional outbound capacity to the region.
The need for pipeline capacity out of the region, however, has changed dramatically since 2018 for two key reasons. First, as a result of the COVID-19 pandemic, worldwide demand for crude oil declined by approximately 9,000,000 BPD, and production forecasts for the Permian Basin have decreased by approximately 2,000,000 BPD. Second, Permian Basin pipeline takeaway capacity has increased from 4,000,000 BPD to 8,000,000 BPD, resulting in a tremendous oversupply of pipeline capacity.
Cactus II explained in its filing that it had two different types of contracts supporting its construction. The first type was with the only bidder in its initial open season who agreed to an aggregate barrel commitment of 547,500,000 barrels over an initial term of approximately five years. This contract equated to a daily commitment of 300,000 BPD. The second type was with the two shippers from a second open season conducted pre-construction who contracted for the remaining 226,500 BPD of committed shipper capacity available on the Cactus II Pipeline. The terms of service offered in the second open season differed markedly from the first, in that second open season shippers were required to make a daily commitment rather than an aggregate barrel commitment.
Due to the drastic changes in the market, the first open season shipper and Cactus II have agreed to modifications in the terms of the original contract. The modifications would essentially lengthen the time period the original shipper has to meet the aggregate barrel commitment, provided that Cactus II can find replacement shippers through its proposed third open season. In this proposed third open season, the original shipper will be obligated to bid a daily capacity amount and term sufficient to satisfy the remaining aggregate barrel commitment. But Cactus II will only be obligated to accept the extended term and the corresponding reduction in the daily commitment if there are shippers willing to take on the capacity essentially being relinquished by the original shipper.
Of the 300,000 BPD held by the original shipper, a third open season shipper can subscribe for as little as 50,000 BPD with a minimum aggregate barrel commitment of 118,750,000 barrels, which would equate to a 6.5-year term. The rate to be charged for both the new bidding shippers and the original shipper is the same rate currently being paid by the original shipper. So by holding this open season, Cactus II will be no worse off than it currently is. The capacity held by its original shipper may get reallocated to those who are willing to pay that rate for a much smaller commitment than the original shipper’s.
Using Arbo’s Platform to Determine the Rate Structure
By using Arbo’s new FREE liquids commerce platform, it is easy to determine that the committed rate required for the original shipper and any third-party open season shipper will range from $1.05 to $1.45 per barrel (depending on origin). Even though new shippers can get that rate with a much lower commitment than the original shipper had to make, this transportation rate may still be too high, as the price differentials would not support paying that much to move crude to the pipeline’s destination. In addition, because of the falling production numbers mentioned in the Cactus II filing at FERC, most producers in the region have already made long-term commitments on other pipelines.
At the time of the original Cactus II open season, the rate of $1.05 per barrel was the lowest posted rate to ship a barrel of crude oil from the Permian Basin to the U.S. Gulf Coast. Using Arbo, we see that other committed rates out of the Permian are in an approximate range of $2 to $4 per barrel. However, due to the overbuild of pipeline capacity out of the region, tariff rates have become much more competitive. Walk-up rates have been significantly reduced in some cases, and temporary volume incentive rates are being posted in an effort to drive up pipeline utilization.
Temporary volume incentive rates are put in place for a limited time in order to incentivize shippers to transport more volume on a given pipeline. These incentive rates require no commitment, which means any shipper (committed or uncommitted) can take advantage of them during any given month; the only requirement is that they nominate enough volume to meet the incentive requirement laid out in the tariff.
Pipeline operators typically employ temporary volume incentive rates when utilization is low and competition for volume is fierce. The operator is not required to keep the incentive rate in place long-term and may change or rescind the rate in the future. Because these rates can come and go quickly, marketers, to optimize their use, need to have ready access to a platform that allows quick comparisons. Arbo shows current temporary volume incentive rates as low as $0.75 per barrel for 50,000 BPD from the Permian to the U.S. Gulf Coast.
Cactus II’s proposed open season may result in additional crude oil takeaway capacity being offered out of the Permian at a time when transportation rates are already under tremendous pressure. This will put additional downward pressure on transportation rates and may result in the continuation and proliferation of temporary volume incentive rates, which Arbo allows our customers to monitor and optimize in real time.