Sunday, June 23, 2013

Oil Patch Insider: Is price of North Slope gas going up? Depends on how you measure

—Eric Lidji

A line in a Fairbanks Natural Gas regulatory filing caught the eye of Petroleum News.

While questioning the ability of a competitor to secure a natural gas supply contract from the North Slope producers, Fairbanks Natural Gas told the Regulatory Commission of Alaska: “The price of North Slope gas has increased substantially in the last few years.”

If North Slope natural gas is stranded, how can it have a price?

And if does have a price, is it “substantially” increasing? And if so, why?

The answer to the first question is simple: stranded gas is still useful gas.

The natural gas on the North Slope may be stuck on the North Slope, but a small portion of it is needed for field operations, utility needs and fuel for pipeline pump stations.

“If gas use takes place off the lease or production unit boundary then the gas will generally have been sold to the user,” University of Alaska Fairbanks and former state economist Antony Scott wrote in a report on natural gas prices earlier this year.

While some of these sales are between affiliated companies, some are considered “arm’s length” and give some sense of the “going rate” for natural gas on the North Slope.

Which leads to the second and third questions.

The contracts with the most publically available information are those between the distribution utility Norgasco and its two major suppliers: ConocoPhillips and BP.

Although the two contracts use slightly different formulas to determine their price, both use the delivered price of Alaska North Slope crude oil as a starting point (specifically the monthly oil price of the prior year, as reported by Platts.) Considering that the price of oil has generally been rising “in the last few years,” the price of gas in those contracts should be rising, too. According to Scott, each $10 change in North Slope oil prices increases gas prices in the contracts by about 44 cents and 46 cents, respectively.

Which means Fairbanks Natural Gas would be correct.

But the Norgasco contracts with ConocoPhillips and BP cover a period from 2012 to 2020, which means they don’t include “the last few years.” And while the price of oil has risen considerably since its lows during the recession, it has been stable recently, and even dropped occasionally, which means pieces may have risen, but not “substantially.”

A longer view

So perhaps the Fairbanks Natural Gas observation refers to contracts.

Way back in 1989, Norgasco bought gas from Exxon Corp. at a flat rate of $1.62 per thousand cubic feet, or about $3.04 per mcf today, when adjusted for inflation.

The ConocoPhillips and BP contracts each include a floor price of $2.50 per million Btu, but with oil prices at $110 per barrel the formula put the current price at roughly $5.10 and $4.85 per million Btu, respectively. So in that sense, the Fairbanks Natural Gas observation is correct: Because of the switch from flat pricing to indexed pricing, the price of North Slope natural gas has “increased substantially in the last few years.”

Of course, while the ConocoPhillips and BP contracts are similar, they are not identical, and the differences are telling. Specifically, the BP contract includes a multiplier making its price slightly less than the price ConocoPhillips is charging. Seeing as how the BP contract came second, one could say the price of North Slope gas is actually going down.

To summarize: Because North Slope gas prices were once fixed, but are now indexed to oil prices, they have increased in the past decade. But because North Slope oil prices have been relatively stable, North Slope gas prices have been, too. And because each new contract responds to the state of the market created by all the other contracts currently in effect, the available data shows the price dropping slightly from contract to contract.

Don’t forget FNG and GVEA

There are two other North Slope natural gas supply contracts worth mentioning.

The first is the one Fairbanks Natural Gas signed with ExxonMobil in 2008, but cannot put into effect until it launches a liquefied natural gas trucking operation to the Interior.

While the specific terms are proprietary, the contract is also based on North Slope oil prices, and Scott believes it is similar to the ConocoPhillips contract, but perhaps with some unknown but unique peculiarities that keep it from being entirely identical.

The other contract is the one Golden Valley Electric Association signed with BP Exploration (Alaska) Inc. in 2012, and also cannot use without a transportation solution.

Because even less is publically known about the GVEA contract than the Fairbanks Natural Gas contract, it’s nearly impossible to discern a trend among the four contracts.

So in the end, Fairbanks Natural Gas is right and wrong and everything in between.

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