PLG Provides Industry Updates to GE Capital


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On October 15, 2013, PLG CEO Graham Brisben presented to GE Capital in New York, New York. Graham’s presentation addressed transportation updates in the Oil & Gas market which have upended traditional logistics and trading patterns in the energy industry, starting an industrial renaissance in the U.S.

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PLG Provides Industry Updates to GE Capital

  1. 1. Logistics Engineering Supply Chain Oil & Natural Gas: The Evolving Freight Transportation Impacts Prepared for GE Capital October 15, 2013 New York, NY 1
  2. 2. About PLG Consulting »  Boutique consulting firm specializing in logistics, engineering, and supply chain §  Established in 2001 §  Over 100 clients and 250 engagements »  Headquarters in Chicago USA, with team members throughout the US and with “on the ground” experience in: §  North America / Europe / South America / Asia / Middle East »  Consulting services §  §  §  §  §  Strategy & optimization Assessments & benchmarking Transportation assets & infrastructure Logistics operations M&A/investments/private equity »  Key industry verticals §  §  §  §  §  §  Oil & gas Chemicals & plastics Wind energy & project cargo Bulk commodities (minerals, mining, agricultural) Industrial manufactured goods Private equity 2
  3. 3. The Shale Development Revolution – Big Picture Disruptive Technologies •  Hydraulic Fracturing •  Horizontal Drilling Market Dynamics •  Supply & Demand •  Customers •  Price •  Logistics Continuous Evolution •  Productivity •  Rapid Change 3
  4. 4. Hydraulic Fracturing and Horizontal Drilling »  Transformational technologies working in concert §  Hydraulic fracturing AND horizontal drilling »  US uniquely positioned for the techniques §  Private mineral rights §  Drilling intensity (wells per acre) §  90% of rig fleet equipped for horizontal drilling »  Rapid ROI for E&P companies §  Typical well earns back capital cost in 1-2 years §  Depending on play productivity, “break even” point of $40-85/ bbl §  Liquid plays providing highest returns Source: L. Maugeri, Harvard Kennedy School; RBN; PLG analysis; BENTEK 4
  5. 5. Rapid Improvements in Operational and Cost Efficiency »  Evolution of drilling technology §  §  §  §  §  Fracking first used in 1947 Revolutionary advances since 2009 Time required for drilling 15,000+ ft. well cut in half in last two years (nine days vs. 18) Dramatic increase in efficiency per rig, making rig count alone no longer a significant indicator of production Hydraulic fracturing/horizontal drilling yields 3-10x the initial production rate of conventional wells Representative Productivity Gains – Fayetteville Shale Play Source: BENTEK, September 2013 Source: Southwestern Energy investor presentation, June 2013 5
  6. 6. Shale Driving Growth in Natural Gas and Crude Oil Production U.S. Crude Oil Production »  1,756 rigs in operation in USA as of Oct. 4, 2013 July 2013 7.49 MM bpd »  Dramatic production growth §  700% increase in gas production since 2007; forecast to grow 9 Bcf/d from 2012-2018 §  Domestic oil production at 22 year high; forecast to reach 10MM bbl/ d by 2018 »  U.S. is on track to pass Russia as the world’s largest producer of oil and gas combined this year (Wall Street Journal, Oct. 2, 2013) Source: EIA GAS OIL THERMAL Source: Baker Hughes 2013 Source: Bentek Source: Baker Hughes 6
  7. 7. US Shale Plays Most Active Plays Gas: Marcellus Haynesville Barnett Oil: Bakken Eagle Ford Permian Basin Emerging Plays Utica (NGLs) Niobrara Mississippi Lime 7
  8. 8. Shale Development Supply Chain and Downstream Impacts Inputs >> Wellhead >> Direct Output >> Thermal >> Fuels >> Raw Materials >> Downstream Products All Manufacturing Generation Process Feedstocks Proppants Fertilizer (Ammonia) Gas OCTG Chemicals Water Steel Home Heating (Propane) Methanol Other Fuels NGLs Crude Feedstock (Ethane) Chemicals Byproduct (Condensate) Petroleum Products Cement Petrochemicals Other Fuels Gasoline 8
  9. 9. Railcar Industry Impacts »  Over $95B in new announced “energy intensive” industrial plant expansions will come on-line over the next five years §  ~50% foreign direct investment »  Shale development impact on the railcar industry is long-term, wideranging, and positive with only one exception 9
  10. 10. Hydraulic Fracturing Materials Inputs and Logistics – Per Well Materials Source to Transloading Transloading to Wellhead Site Waste Water ~500 Total Truckloads Proppants 40 160 OCTG (Pipe) 5 20 Chemicals 2 8 Clean Water/ Cement Local source ~1,000 47 Total Railcars ~1,200 Total Truckloads Oil/Gas/NGLs Truck, Rail, Pipeline 10
  11. 11. Correlation of Operating Rig Count with Sand and Crude Shipments 200,000 2,500 Operating On Shore Rigs All Sand Carloads 180,000 Petroleum Carloads 2,000 140,000 Carloads 120,000 1,500 100,000 80,000 1,000 60,000 40,000 Operating Onshore Rigs 160,000 500 20,000 0 0 2007 Avg. 2008 STCC 14413 (sand) and 13111 (petroleum) Avg. 2009 2010 Source: US Rail Desktop, Baker Hughes 2011 2012 2013 11
  12. 12. All Sand Handled by Railroad 50,000 45,000 40,000 Carloads 35,000 30,000 UP BNSF 25,000 NS 20,000 CN CSXT 15,000 CPRS KCS 10,000 5,000 0 Quarterly Data STCC 14413 Source: US Rail Desktop 12
  13. 13. Upper Midwest Sand Shipping Flows Major Frac Sand Mining Areas Frac Sand Transloading Clusters Major Frac Sand Rail Traffic Lanes 13 13
  14. 14. U.S. Frac Sand Industry Trends »  Industry consolidation continues, with focus on integrated supply chains §  §  §  §  Hi-Crush purchase of D&I Silica (May) US Silica multi-year agreement with Wildcat Minerals (August) FTS International sand and logistics (non-truck) divestiture to Fairmont Minerals (July) PE firms continue to be interested in this space »  Class I railroad/sand supplier alliances are likely to continue §  §  US Silica – BNSF facility in San Antonio Others in progress »  Significant barriers to entry §  §  2 - 3 years to secure property, permit, and begin construction Increasing concerns regarding environmental, health, agricultural and infrastructure impact at the state and county levels -  OSHA August 23, 2013 announcement regarding proposed crystalline silica exposure rules -  Counties commissioning studies regarding property value and agricultural impacts 14
  15. 15. Processed Sand Total Delivered Cost per Ton »  “Benchmark” unit train example – Illinois to South Texas Total Delivered Cost per Ton ~ $122 §  Single-line haul (one rail carrier) §  Private railcars §  Railcar fleet achieving two round trips per month §  Origin sand facility has direct rail load-out §  Destination trucking is less than 100 miles »  Unit train operations include efficient origin/ destination handling §  24 – 36 hours per train Rail Freight, FSC and Eqp Lease, 42% Sand, 33% Destination Transload & Trucking, 25% »  Manifest service would increase rail-related costs by 17% §  Increased freight rate (14% higher) §  Railcar fleet only achieves one turn per month, on average §  Additional trackage required to accommodate larger fleet §  Delivery patterns are more variable, requiring additional destination storage and inventory Source: PLG analysis using BNSF public pricing – does not include fixed assets at origin or destination Logistics costs drive ~ 67% of total delivered sand cost 15
  16. 16. Supply Chain Critical to Success in Sand Industry Mining Processing Rail Load-out Long Haul Rail Transloading and Storage »  End customers will continue to mix in-sourcing and outsourcing §  Early in-sourcing driven by supply assurance and controlling own destiny §  Can outsource beat the most efficient in-sourcing? Trucking to Well Best “Tier 1” suppliers will win §  Will the end customers consider sand to be core competency? »  End customers desire “Storefronts” – Choosing between Walmart and Target would be best §  Allows them to focus on their core competencies §  Minimizes their inventory costs while maximizing their flexibility »  Sand supply winners understand the total cost structure, leverage each link of the supply chain and understand cost trade-offs 16
  17. 17. Sand Railcar Market Conditions »  Conditions are normalizing §  Builder backlog has been resolved –  §  §  Wait time is now attributable to other car types in the pipeline Many surplus cars have found homes 2013 total production of sand cars will be closer to the historical average of 2,000 – 3,000 units »  Lease market settling into familiar patterns §  §  §  §  §  Traditional pricing behavior: Newer/286k cars more expensive than older/263k cars Cars with sub-optimal design (i.e. older grain cars) being flushed out and replaced where possible Lessors placing modest “spec” orders Credit-worthiness of lessee is still a critical criteria Market is still trying to find its feet »  Looking forward §  Positive developments in housing/construction should equate to additional demand for small cube hoppers 17
  18. 18. Looking Ahead: What Will the Frac Sand Industry Look Like in 3 to 5 Years? »  Frac sand industry will likely have significant growth in the coming years Growth rate driven by liquids now – crude, NGL, condensate New sources of gas demand will drive gas drilling growth eventually Natural sand is the preferred proppant; larger well trend continues §  §  §  »  “Survival of the fittest” supply chain – the evolution will continue “Tier 1” supply base will further consolidate smaller players The best niche players will thrive as 2nd tier and in small plays Supply chain practices and technology flow in from other industries Continuous Improvement mindset required to win §  §  §  §  »  Heavy focus on cost reduction will continue Cost and margin will continue to be rationalized – direct and soft Difficult to win without volume leverage §  §  –  –  –  Sand supply Unit trains High volume transload and storage capability 18
  19. 19. Shale Play Product Flows Outbound »  Natural Gas §  Majority via pipelines, some trucks »  Natural Gas Liquids (NGLs) §  §  Requires processing (fractionation) 3-9 gallons/MCF (thousand cubic feet) –  –  –  –  –  Ethane Propane Normal Butane Iso-Butane Condensate ~42-65% ~28% ~8% ~9% ~13% »  Crude Oil §  §  Bakken play as a model Surging Permian and Eagle Ford development 19
  20. 20. Shale Development Natural Gas Impacts »  Industry a “victim of its own success” §  §  §  §  Fracking results in oversupply; gas prices down 33% since 2010 Breakeven gas price at 10% IRR: ~$3.25 mm/btu Rigs leave Marcellus, other gas plays for oil plays (~700 “non producing” wells in PA) Helped to deflate frac sand boom Source: RBN »  Lower gas prices have resulted in 10-13% market share capture from coal for thermal generation »  Low gas prices fueling industrial renaissance §  §  Overall manufacturing (cost of electricity; “reshoring”) Specific sectors that use natural gas as a feedstock –  –  –  Methanol (16MM m/t new capacity under consideration) Steel Fertilizer Source: RBN, PLG analysis 20
  21. 21. Natural Gas Displacement of Coal for Thermal Generation »  Natural gas now supplying approx. 30% of thermal fuel demand (~13% share capture from coal) »  Despite recent increases in prices, natural gas share capture expected to maintain or grow §  §  Environmental regulations of coal burning Scheduled coal unit retirements; 55GW through 2020 »  Adversely affecting coal industry, railroad coal loadings §  US coal consumption declined 21% from 2007-2012 Fuel Cost Comparison for Electricity Generation Source: Bentek, PLG analysis Source: RBN Energy, June 2013 21
  22. 22. Shale Related Rail Traffic Still Small Relative to Coal Volumes Railcars Handled: Sand, Crude, & Coal 2,500,000 Carloads 2,000,000 1,500,000 Sand 1,000,000 Crude Coal 500,000 2013 2012 2011 2010 2009 2008 0 Sand Crude Coal Quarterly Data STCC 14413 (sand), 13111 (petroleum), 11212 (coal) Source: US Rail Desktop 22
  23. 23. Coal, Crude & Sand Trends: Carloads and Revenue Revenue $18 9 $16 8 7 $14 1,400 Thousands 10 Billions Millions Carloads Combined Sand and Crude Carloads and Revenue 1,200 Crude Revenue $4.5 $4.0 $3.5 1,000 $12 6 Sand Billions Total Coal Carloads and Revenue $3.0 $10 800 $2.5 $8 600 $2.0 5 4 3 2 1 - STCC 14413 (sand), 13111 (petroleum), 11212 (coal) $6 $1.5 400 $4 $2 $0 Source: US Rail Desktop $1.0 200 - $0.5 $0.0 23
  24. 24. Shale Gas Driving Steel Manufacturing Comeback in US »  Shale gas boom makes direct-reduced iron steel economical §  Not new technology, but preferable with lower cost natural gas §  DRI process uses natural gas in place of coal to produce iron §  At current gas prices, DRI can generate iron pellets at a cost of $260 to $280/ton vs. scrap steel currently trading at ~$390/ton §  DRI-derived steel of higher quality than that created from recycled scrap, further driving demand »  U.S. jobs and international investment §  Steel production in the U.S has shrunk 14% since Jan. 2008 –  Compare to 15% growth in steel production internationally »  Reciprocal growth §  Increased demand for U.S. steel creates greater demand for U.S. gas §  Tubular steel products has 8% yearly growth in demand, driven by increase in shale oil and gas §  Joint venture between Nucor Corp. and Encana Corp. commits $3 billion to development of new gas wells to support DRI plants –  Nucor’s plant with 2.5 million tons of DRI capacity is expected to open end of 2013 §  Voestalpine $740MM investment in Texas for direct reduction plant with 2 million metric ton capacity, due to begin operations in late 2015 §  Potential US Steel-Republic Steel JV to produce DRI Source: World Steel Association 24
  25. 25. Shale Gas Encourages Upgrade of Natural Gas to Methanol »  Upgrade low-cost natural gas to methanol §  Primary uses are production of formaldehyde, acetic acid, and other chemicals §  Methanol is a very cost-efficient way to move natural gas to higher-value foreign markets »  U.S. is a growing methanol market §  Represents 10% of the global market §  U.S. imports 89% of its supply on average »  Opportunity in U.S. methanol production §  Capture price spread between low-cost natural gas and methanol §  Bolt-on approach is possible on some existing hydrogen infrastructure Source: Valero investor presentation, September 2013 Source: Valero investor presentation, September 2013 25
  26. 26. Shale Gas Development Impact on Fertilizer Market »  Natural gas is a feedstock for ammonia production §  Represents ~70% of cash costs (CF Industries) »  Lower gas prices directly benefit American farmers §  §  §  Increased demand for corn, soybeans has driven fertilizer costs higher Excess natural gas supply can be utilized to produce greater volumes of nitrogen-based fertilizer more economically North American reliance on nitrogen imports means that American producers typically run at 100% of available capacity (CF Industries) »  Cheap U.S. natural gas means billions in investment for new domestic fertilizer plants, displacing ~11 MM m/t of imports §  §  §  §  §  §  §  §  §  Orascom/Iowa Fertilizer Company - Wever, IA CHS - Spiritwood, ND Ohio Valley Resources - Spencer County, IN Yara - Belle Plaine, SK Canada Northern Plains Nitrogen – Grand Forks, ND CF Industries – expansions at Donaldsonville, LA and Port Neal, IA PotashCorp - resumption of ammonia production at Geismar, LA EuroChem – Iberville Parish / St. John the Baptist Parish, LA Agrium – Borger, TX »  Rush of new plant announcements sparked oversupply concerns, cancelations (Yara, Agrium-KY) 26
  27. 27. Looking Ahead: Natural Gas »  Oversupply conditions expected to persist through 2020 »  Factors that could revive demand, production, and prices (>$5/MMbtu) §  §  §  §  §  Industrial use expansions come online over next 5 years Continued toughening of EPA regulations of coal Historic import/export reversal of US/ Canada natural gas flows by 2014 (Marcellus gas exports to Canada), plus exports to Mexico Technology advancements for increased use of CNG as a transportation fuel LNG exports Source: BENTEK, September 2013 27
  28. 28. LNG Export Opportunity »  Political/policy battle between domestic industrial users and producers »  Sabine Pass, LA, Freeport, TX, Cove Point, MD now permitted for exports §  §  5.6 Bcf/day export capacity to come online by 2015; coincides with widening of Panama Canal Represents ~8% of projected US dry gas production »  20 additional terminal applications totaling 29 Bcf/day of export capacity pending before FERC Selected US Natural Gas Import & Export Infrastructure Source: Congressional Research Service, EIA Source: Waterborne Energy Inc. Data in $US/MMBtu 28
  29. 29. Shale Development NGL Impacts »  Requires fractionation facilities proximal to production §  §  §  §  §  “Y-grade” must be separated into purified products 75% of fractionation capacity in US Gulf Coast Mt. Belvieu, TX major trading & storage hub 500 Mb/d of new fractionation capacity planned for Utica Utica NGL production growth expected to exceed 600% between 2013-2015 »  Similar to dry gas, strong production due to fracking has resulted in oversupply and depressed prices §  Chemical industry benefits 29
  30. 30. Shale Development Driving US Chemical Industry Expansion »  Abundant ethane supplies have sparked chemical industry renaissance §  100% of captured ethane is “cracked” to make ethylene, the most basic building block in the chemicals supply chain §  Planned expansions will increase US ethylene capacity 33% (11 MMmt) by 2017 §  Full economic impact of expansions won’t be felt until 2016 Source: EIA Source: American Chemistry Council, May 2013 30
  31. 31. Low Cost Feedstocks Driving US Competitiveness vs. ROW »  USA is now the low-cost producer of ethylene-based chemicals due to abundant supplies of ethane from shale plays (up to 60% raw materials cost advantage) §  Europe, Asia reliant on oil-linked naptha as petrochemical feedstock »  Domestic end-use of materials, i.e. plastics, will expand significantly »  Up to 40% of new petrochemical output will be for export Source: LyondellBasell investor presentation, September 2013 31
  32. 32. Natural Gas & Petrochemical Downstream Products Low-Density Polyethylene Food packaging, film, trash bags, diapers, toys High Density Polyethylene House wares, crates, drums, food containers, bottles. Ethylene Dichloride Vinyl Chloride PVC Antifreeze Natural Gas, OIl Ethylene Oxide Ethylene Glycol Fibers Siding, windows, frames, pipe, medical tubing Pantyhose, carpets, clothing PET Miscellaneous Ethane, Naphtha, etc. Feedstock/ Intermediary Finished Products Ethyl Benzene Styrene Bottles, film Polystyrene SAN Insulation, cups SBR Ethylene Linear Alcohols Detergents Latex Miscellaneous Tire, hose Vinyl Acetate Adhesives, coatings, textile/ paper. finishing, flooring Miscellaneous Instrument lenses, house wares Medical gloves, carpeting, coatings 32
  33. 33. Looking Ahead: NGLs »  US NGL production forecast to increase by 1.6MM b/d from 2012-2018 »  The (somewhat) hidden Condensate story §  Used as diluent for heavy Canadian tar sands oil – critical for transportation as “Dilbit” §  Significant investment in infrastructure being made to deliver Eagle Ford, Utica condensate to Western Canada §  Primary delivery via pipeline, but major rail volumes ex. Utica are required to get to Midwest pipeline injection points §  Canadian diluent import demand expected to grow from 200 Mb/d to 500 Mb/d by 2018 Source: Canadian Energy Research Institute »  Expect export market for NGLs to expand §  Pipeline reversals undertaken to meet demand, particularly ex. Utica to Sarnia, ON petrochemical complex and export storage and dock facilities in Philadelphia §  US projected to export over 1MM bb/d of NGLs by 2018 Source: Sunoco Logistics Source: RBN, PLG analysis 33
  34. 34. Shale Development Crude Oil Impacts »  Dramatic increases in US production due to hydraulic fracturing and horizontal drilling §  §  §  §  §  §  7.49 MM bbl/day Projected to grow by ~30% over next four years Strong play in Bakken; surging Permian and Eagle Ford development “Tight” oil sources driving overall North American growth Production forecasts frequently revised upward Largest area of non-OPEC growth is North America Source: BENTEK, September 2013 34
  35. 35. Revitalization of US Refining Industry »  Shale development creating competitive advantage for US refined products globally §  §  §  §  Strong growth for US exports to Latin America, Asia US now a net exporter of petroleum products Record 3.8MM bbl/day of exports in July 2013 High demand for US low-sulfur diesel in South America and Europe Source: Valero investor presentation, September 2013; Wall Street Journal 10/8/13 35
  36. 36. Driving Toward “Oil Independence?” »  Decreasing dependency on foreign crude §  Combination of US shale plus Canadian oil sands estimated to reduce imports to <15% by 2020 »  Supply isn’t enough – “independence” also relies on lower domestic fuels consumption §  CAFE standards the primary driver 36
  37. 37. Displacement of Waterborne Crudes by Mid-Continent Sources »  Reducing imports means reducing waterborne crudes §  West African imports already down ~70% from 2010 levels »  Mid-continent sources displacing imports at coasts, making rail critical to the total crude market §  Bakken as case study for large crude by rail operations Source: Valero Investor Presentation, September 2013 37
  38. 38. Some Basic Facts About Crude Oil: Grades and Qualities »  Not all crudes are created equal – light/sweet vs. heavy/sour §  Heavy/sour crudes include Western Canada, Venezuela, Mexico, Alaska North Slope (ANS), Middle East (light/ sour) §  Heavy/sour has higher sulfur content, yield for asphalt, diesel »  Refineries are generally configured to run certain types of crude §  Significant investments made ($48B since 2005) at select refineries to install coker units that will allow processing of heavy/sour §  Major heavy/sour refining clusters: Texas Gulf Coast, Chicago, southern Illinois, California Source: RBN Energy 38
  39. 39. Some Basic Facts About Crude Oil: Major Production and Refining Areas »  The special case of the Canada Oil Sands §  Heavy/sour crude has a natural home in Midwest and US Gulf Coast (~2.8 MM bpd demand at USGC) §  Pipeline capacity to US Midwest refining centers is at capacity §  Pipeline expansions to coasts, US markets still 2+ years away »  Brent, WTI, and US shale play crudes (Bakken, Permian, Niobrara, Eagle Ford) are light/sweet §  US is close to saturation point on light/sweet crude at midcontinent and USGC refining areas Source: CAPP, June 2013 US Crude Oil Production Growth by Grade Source: Turner Mason, RBN Energy Source: RBN Energy 39
  40. 40. US Crude Market Overview ANS Oil Sands Hardisty, AB Pacific Northwest Refiners PADD V Demand 2,400 kbpd Bakken Clearbrook, MN Light/Sweet PADD II Demand Heavy/Sour 3,250 kbpd East Coast Refiners Light/Sweet California Refiners Heavy/Sour Midwest Refiners 1,050 kbpd PADD I Demand Light/Sweet Heavy/Sour Cushing, OK Permian Brent St. James, LA LA Gulf Coast Refiners TX Gulf Coast Eagle Ford Refiners Mexican Maya 7,650 kbpd PADD III Demand Light/Sweet Sources: EIA, PLG Analysis (Google Earth) Venezuela Crude Heavy/Sour West African Brent Middle East 40 West African
  41. 41. Crude By Rail From the Bakken – Recent History »  2009-2010: Objective of crude by rail to “bridge the gap” until pipelines built §  2010-2011 discount of ~$8-12/bbl for Bakken crude vs. peer WTI §  Undervalued due to logistics constraints “stranding” the oil §  EOG a market leader in developing unit train capability from the Bakken »  2011-2012: Significant development of crude by rail loading terminals »  2012: Crude by rail viewed as a core mode of transportation and means of arbitrage §  Differentials made rail attractive: Bakken and WTI trading at ~$12-$15/bbl less than Brent; Alberta Bitumen trading at ~$30/bbl less than Brent §  Market response: E&P, midstream players willing to rapidly deploy significant capital to enable access and capitalize on spreads –  Multi-modal logistics hubs in shale plays and at destination markets (i.e. Cushing, OK, St. James, LA, Pt. Arthur, TX, Albany, NY, Bakersfield, CA) –  Lease and purchase of railcar fleets §  Refineries installing unit train receiving capability - particularly coastal refineries previously captive to waterborne imports (i.e. Philadelphia, PA, St. John, NB, Anacortes, WA, Ferndale, WA) 41
  42. 42. 2013: Rail Captures 70% Market Share of Bakken Production ~874,000 BPD July 2013 »  Takeaway capacity now exceeds production First outbound unit train shipment December, 2009 »  Pipelines operating below capacity; some project cancelations Source: EIA, North Dakota Pipeline Authority, PLG »  Strong rail volumes to start the year have leveled off as of May Source: North Dakota Pipeline Authority, PLG Analysis 42
  43. 43. Crude Oil by Rail – North Dakota Terminals North Dakota Crude Oil Rail Loading Capacity (Barrels Per Day) Rail Terminals 2013 2014* 2015* Rail Carrier EOG Rail, Stanley, ND (Up to 90,000 BOPD) 65,000 65,000 65,000 BNSF Inergy COLT Hub, Epping, ND (Q2 2012) 120,000 120,000 120,000 BNSF Hess Rail, Tioga, ND (Up to 120,000 BOPD) 60,000 60,000 60,000 BNSF Bakken Oil Express, Dickinson, ND 100,000 100,000 100,000 BNSF Savage Services, Trenton, ND (Q2 2012 Unit Trains) 90,000 90,000 90,000 BNSF Enbridge, Berthold, ND (Q4 2012) 80,000 80,000 80,000 BNSF Great Northern Midstream, Fryburg, ND (Q1 2013) 60,000 60,000 60,000 BNSF Musket, Dore, ND (Q2 2012) 60,000 60,000 60,000 BNSF Plains, Ross, ND 65,000 65,000 65,000 BNSF Global/Basin Transload, Zap, ND (Estimate Not Confirmed) 40,000 40,000 40,000 BNSF 740,000 740,000 740,000 Plains - Van Hook, New Town, ND 65,000 65,000 65,000 CP Dakota Plains, New Town, ND 30,000 80,000 80,000 CP Global Partners, Stampede, ND 60,000 60,000 60,000 CP 155,000 205,000 205,000 30,000 30,000 30,000 925,000 975,000 975,000 BNSF Total Capacity CP Total Various Sites in Minot, Dore, Donnybrook, and Gascoyne Total Crude Oil Rail Loading Capacity *Project still in the review or proposed phase Source: North Dakota Pipeline Authority (September 2013), PLG Analysis Year End System Capacity 43
  44. 44. North Dakota Class I Railroads and Crude Oil Terminals Map by PLG Consulting 44 44
  45. 45. Bakken Area Outbound Pipelines North Dakota Crude Oil Pipeline Capacity (Barrels Per Day) Pipelines Butte Pipeline Butte Loop (Late 2014) Enbridge Mainline North Dakota Enbridge Bakken Expansion Program (Q1-11/Q1-13) Plains Bakken North (Up to 75,000 BOPD) High Prairie Pipeline* Enbridge Sandpiper* (Q1 2016) TransCanada Keystone XL* (2015) 2013 160,000 210,000 145,000 50,000 - Pipeline Total *Project Still in the Review or Proposed Phase 2015* 160,000 110,000 210,000 145,000 50,000 150,000 100,000 50,000 Hiland Partners Double H Pipeline (Q3 2014, Up to 100,000 BOPD) 2014* 160,000 110,000 210,000 145,000 50,000 150,000 - 50,000 565,000 875,000 975,000 Year End System Capacity Source: North Dakota Pipeline Authority, September 2013 45 45
  46. 46. Bakken Production vs. Total Takeaway Capacity: 2013–2015 Projection Year ND Production Forecast (Bpd) Pipeline Capacity Rail Terminal Capacity Rail Carrier Capacity ND Refinery Consumption Total Outbound & Refinery Capacity Excess Logistics Capacity 2013 850,000 565,000 925,000 1,300,000 68,000 1,558,000 708,000 2014 980,000 875,000 975,000 1,300,000 68,000 1,918,000 938,000 2015 1,150,000 975,000 975,000 1,350,000 108,000 2,058,000 908,000 Bpd = Barrels per Day Source: North Dakota Pipeline Authority (September 2013) , PLG Analysis 46
  47. 47. Crude Oil by Rail vs. Pipeline »  Rail cost: 50-100% more expensive than pipeline transport »  Near-term offsetting rail advantages: §  §  §  §  Site permitting, construction much faster Lower capital cost Scalable Shorter contracts (2-3 year commitments vs. 10 years for pipeline) Faster transit times Access to coastal areas not connected via pipeline Origin/destination flexibility Primary advantage: Tool of arbitrage for trading desks »  Rail pricing drivers §  Advantaged rate structures for first-movers, volume, and unit train operators §  “Floor” has been set for crude by rail pricing §  Crude price differentials more important than cost vs. pipeline §  Destination flexibility Cost Comparison: Bakken to Cushing and USGC $15.00 $16.00 $14.00 Dollars Per Barrel §  §  §  §  $12.00 $12.00 $10.50 $10.00 $8.00 $6.50 $6.00 $4.00 $2.00 $Pipeline to Cushing Source: PLG analysis Rail to Cushing Pipeline to Pt Arthur Rail to Pt Arthur 47
  48. 48. All Crude Handled by Railroad Volume Growth 90,000 80,000 70,000 Carloads 60,000 BNSF 50,000 UP CPRS 40,000 NS CSXT 30,000 CN KCS 20,000 10,000 0 Quarterly Data STCC 13111 Source: US Rail Desktop 48
  49. 49. Crude Oil Pipelines: Existing and Planned »  Current pipelines ex. Bakken operating below capacity §  However, volumes have increased over past 60 days »  Pipeline industry has been challenged by new dynamic NA oil market §  Fixed routes, long lead times §  10 year commitments required for new build pipeline projects §  Lack of subscription interest in KM Freedom project (PermianCalifornia) »  Several natural gas pipeline conversions planned Source: CAPP Report, 2013 §  Trunkline (ETP) – Patoka, ILSt. James, LA §  Energy East (TransCanada) – Hardisty, AB-St. Johns, NS 49
  50. 50. Crude Tank Car Market Conditions »  Potential bottleneck: Railcars Current order backlog runs to early 2015 (~48,000 cars) Major purchases by oil majors and midstream companies Extremely tight market with very high lease rates Current crude fleet of ~30,000 cars equivalent to ~1-1.5 MM bbl/ day §  Short term demand is highly dependent on WTI – Brent spread §  §  §  §  »  Railcar type is important §  General service 31,800 gallon capacity, non-coiled, noninsulated cars are optimized for light crudes exclusively §  Coiled and insulated cars with 25,500 – 28,800 gallon capacities offer multiple product flexibility for light or heavy crude and many other chemical and oil products –  Coiled and insulated cars have many redeployment options if not in crude oil service »  Key question: If/is/when will the crude tank car industry become overbuilt? Source: GATX, PLG analysis 50   50
  51. 51. Forecast of Crude Railcar Supply and Demand Best-Case Crude by Rail Potential vs. Crude Railcar Capacity 2,500 §  Railcar backlog is through mid 2015; retirement of old railcars will reduce capacity if no additional railcars built 2,000 Thousand bbls/day »  Production increases vs. railcar capacity increases §  1,500 Current crude fleet ~30k cars and backlog of ~48.2k runs through mid 2015 If pipelines and local refining can consume production increases in Permian and Eagle Ford, crude by rail will be primarily Bakken and Canadian Oil Sands-driven 1,000 500 0 Mar-13 »  Under best-case scenario for rail market share capture, data suggests existing & planned tank car fleet exceeds demand Q1 2013 originated rail carloads of crude petroleum were 97,135, which equates to 755,000 barrels per day (assume 700/bbl. average capacity) Sep-13 Mar-14 Sep-14 Mar-15 Other Production Sources Williston Oil Sands Sep-15 Crude Railcar Capacity Assumptions: •  80% of projected Williston Basin production •  80% utilization of Oil Sands announced 300 kbpd of rail terminals through 2014, and 80% utilization of an additional 300 kbpd for 2015 •  30,000 crude railcars in March and build rate of 21,500 railcars/year through 2015 with attrition rate of 7,800 railcars/year •  700 bbl. average railcar capacity and average 23 day turn •  Other production sources increase at rate of 2% per quarter Sources: CAPP, AAR, NDPA, GATX, and PLG analysis »  Possible retrofit of “old design” railcars would decrease capacity §  Approx. 2/3 of unlined, 30K/gallon fleet would need retrofit 51
  52. 52. Lac Megantic Investigation Results – Update »  Montreal, Maine and Atlantic Railway (MMA) filed for Chapter 11 bankruptcy on August 7 and had its Canadian rail operating license suspended on August 13 »  Transport Canada will review adequacy of rail carrier insurance requirements in light of the estimated $200+ million estimated damages »  MMA insurance level was $25 million vs. industry average of $32 million »  September: Transportation Safety Board of Canada finds World Fuels Newtown, ND misclassified the crude oil; Irving Oil and World Fuels have been cited with potential criminal impacts §  Ten oil producers delivered oil into Newtown, ND terminal with MSDS’s showing varying determinations on flash and boiling point tests §  Newtown described the product in the cars as the lowest level hazard class & volatility/flammability level, when in fact it contained some much more volatile crude oils §  TSB has concluded that the crude oil shipped was as flammable as gasoline 52
  53. 53. Rail Operations – Impacts on Canadian Railroads »  July 24: Transport Canada announces the following measures for Canadian railroads §  Two man crews are required on all trains transporting hazardous materials (hazmat) cars §  No locomotive attached to hazmat cars will be left unattended on a main track §  All unattended locomotives on main tracks are protected from unauthorized entry §  Directional controls must be removed from any unattended locomotives on main and siding tracks §  Hand brakes must be applied to all locomotives attached to cars that are left unattended for more than one hour on a main or siding §  Automatic and independent brakes must be applied to all locomotives attached to cars and left unattended for one hour or less 53
  54. 54. Rail Operations Impacts – US Rail Carriers »  August 2: FRA – emergency order issued to US railroads §  §  §  §  §  No unattended hazmat trains outside yards Railroads must develop process for securing unattended hazmat trains Number of handbrakes applied to unattended train must be communicated Railroads must inspect train after an emergency response occurs Short lines are subject to compliance with the emergency order 54
  55. 55. FRA Crude Oil Product Quality and Classification Initiative »  FRA is investigating and put shippers on “notice to evaluate their processes” §  Improved and frequent crude oil chemistry testing to determine volatility and appropriate MSDS and classification §  Shippers must use only the proper tank car/vessel that meets hazmat regulation requirements §  Establishes minimum tank car outages and recommends product specific gravity testing prior to car loading §  Concern is with product expansion and leaks en route §  Expressed concern about corrosion resulting from oil chemistry unknowns and recommends testing for corrosion agents »  PHMSA (Pipeline and Hazardous Materials Safety Administration) initiates “Bakken Blitz” to test product samples vs. BOL description for accuracy 55
  56. 56. Potential Future Rail Industry Impacts »  Bakken Crude oil volatility testing (FRA Directive) §  Oil chemistry varies by well/pad §  Concerns with extremely low flash and boiling points §  Highly volatile crudes may require post 2011 type tank cars »  Short line operations/rules changes – safety vs. economics §  Vetting process for small operators – shipper responsibility §  Higher insurance level requirements likely »  DOT 111A Car type §  New cars –  Crude oil 111A car design, will it be safe enough? §  Likely yes §  Existing 111A fleet of 240,000 cars – to be determined –  Retrofits for certain high hazmats? –  Fleet grandfather provisions? –  Tank car shop capacity concerns §  Crude oil corrosion concerns – under investigation –  Potential car lining if tank corrosion is evident 56
  57. 57. Lac Megantic Incident is Changing the Crude by Rail Business »  Increased product testing, documentation and traceability »  Increased FRA audit and scrutiny of entire CBR supply chain »  Railroad operating rule changes on hazmat train handling »  Increased financial responsibility minimums for short line carriers »  Pre-2011 flammable liquid tank car fleet will be impacted (ethanol and crude oils) §  Estimate two-thirds of fleet 57
  58. 58. Shale Development and Crude By Rail: Current Market Dynamics »  The gusher of new US light/sweet shale oil production made possible by fracking has upended the traditional oil logistics and trading patterns §  Result: “Wrong place/wrong oil” supply displacements, i.e. Cushing overflow §  Rapid investment in new logistics infrastructure, routes, modes, and terminals (“re-plumbing”) »  Bakken now sufficiently developed; next immediate areas for significant investment are Utica, Oil Sands, Permian, coastal areas and and facilities that support bitumen transport in particular §  Est. 500M bbl/day rail loadout capacity being developed in Oil Sands §  Rail build-out/additional takeaway capacity has helped Alberta heavy/sour reach highest price in 5 years ($91/ bbl) »  Today: §  Spreads have narrowed, limiting arbitrage opportunities and slowing crude by rail growth §  Price differentials driving trading and logistics patterns Source: North Dakota Pipeline Authority, RBN Energy – September 2013 58   58
  59. 59. Heavy/Sour Crude Logistics and Price Differentials – October 2013 Rail Oil $69 Sands Pipeline Marine Hardisty, AB Pacific Northwest Refiners PADD V Demand Clearbrook, MN 2,400 kbpd Light/Sweet Heavy/Sour PADD II Demand California Refiners 3,250 kbpd Chicago, IL Light/Sweet Heavy/Sour Midwest Refiners Spread Mexican Maya - WCS Dec. 2012 $33.55/bbl Crude Prices from October 2013 Sources: EIA, CME Group, PLG analysis (Google Earth) October 2013 $31.50/bbl Change -$2.05/bbl Heavy/Sour at TX GC Mexican Maya (ship): $101 WCS (pipe): $87 WCS (rail): $93 TX Gulf Coast Refiners 7,650 kbpd Mexican Maya PADD III Demand Light/Sweet Heavy/Sour 59
  60. 60. Light/Sweet Crude Logistics and Price Differentials – October 2013 Rail ANS Pipeline Light/Sweet at PNW Bakken (rail): $106 Brent (ship): $112 Marine $93 (wellhead) Pacific Northwest Refiners PADD V Demand 2,400 kbpd Bakken Clearbrook, MN Light/Sweet at EC Bakken (rail): $108 Brent (ship): $111 Light/Sweet Heavy/Sour Chicago, IL East Coast Refiners California Refiners 1,050 kbpd Brent PADD I Demand Light/Sweet WTI:$103 Heavy/Sour Cushing, OK Permian Spread Brent - WTI LLS - WTI WTI - Bakken (Clearbrook) Dec. 2012 $21.83/bbl $20.00/bbl Oct. 2013 $6.65/bbl $2.50/bbl Change -$15.18/bbl -$18.50/bbl $3.00/bbl $10.00/bbl St. James, LA Light/Sweet at LA GC Bakken (rail): $108 LLS (local): $106 $7.00/bbl Crude Prices from October 2013 Sources: EIA, Bloomberg, Baytex Energy, CME Group, PLG analysis (Google Earth) TX Gulf Coast Eagle Ford Refiners Light/Sweet at TX GC Bakken (pipe): $104 Brent (ship): $112 WTI (pipe): $109 LA Gulf Coast Refiners 7,650 kbpd PADD III Demand Light/Sweet Heavy/Sour $6 Brent 60
  61. 61. Looking Ahead: North American Crude Oil Logistics »  A “new normal” in crude oil flows will emerge in conjunction with continued North American oil production over the next five years §  Continued shifts of mid-continent light/sweet to coastal destinations §  New modes and infrastructure to get Canadian bitumen to USGC, with or without Keystone XL §  Permian, Eagle Ford to meet USGC light/sweet demand; Bakken flows primarily east-west §  Significant oversupply of light/sweet and super-light grades §  Continued major investments in midstream logistics operations and assets »  Expect eventual government approval of light/sweet crude oil and condensate exports on a limited basis, similar to LNG »  Primary threats to crude by rail business 1.  Narrow WTI-Brent spread (less than $10/bbl) 2.  Glut of Permian and Eagle Ford light sweet oil displacing rail volumes to USGC to Gulf Coast (but somewhat offset by new rail deliveries from Oil Sands) 3.  Continued pipeline development 4.  Water-borne Eagle Ford crude deliveries to USEC Supply Sources Capital Key Drivers Destination Markets Oil Prices 61   61
  62. 62. Looking Ahead: Crude Oil Anticipated Production Growth and Product Flows 1,985 2,590 Oil Sands Export Terminal Heavy/Sour Light/Sweet +30% Rail Pipeline Marine Hardisty, AB Pacific Northwest Refiners Bakken 871 1,363 Canadian East Coast Refiners +56% Clearbrook, MN Chicago, IL California Refiners East Coast Refiners Cushing, OK +40% Anticipated Production Growth (000 bbl/d) = Current 2013 = Future 2017 1,200 1,680 +100% Permian St. James, LA 800 1,600 LA Gulf Coast Refiners Eagle Ford TX Gulf Coast Refiners Sources: BENTEK Energy, CAPP, Railroad Commission of Texas, ND Pipeline Association, PLG Analysis (Google Earth) 62
  63. 63. Professional Logistics Group Thank You! For follow up questions and information, please contact PLG: +1-312-957-7757 / Taylor Robinson, President Graham Brisben, CEO Jean Arndt, Vice President Jeff Dowdell, Senior Consultant Gordon Heisler, Senior Consultant Jeff Rasmussen, Senior Consultant Jay Olberding, Analyst This presentation is available at: WWW.PLGCONSULTING.COM 63