Underground natural gas storage facilities are a vital and complementary component of the North American natural gas transmission and distribution system. While mainline gas transmission lines provide the crucial link between producing area and marketplace, underground gas storage facilities help maintain the North American natural gas transmission and distribution system’s reliability and its capability to transport gas supplies efficiently and without interruption. Natural gas storage facilities are essential to balance the dramatic divergence between the seasonal and daily variability of gas consumption and the inflexibility of gas production in North America.

1.
Gas storage industry primer
Gas storage industry primer

2. Industry overview
General
Underground natural gas storage facilities are a vital and complementary component of the North
American natural gas transmission and distribution system. While mainline gas transmission lines
provide the crucial link between producing area and marketplace, underground gas storage
facilities help maintain the North American natural gas transmission and distribution system’s
reliability and its capability to transport gas supplies efficiently and without interruption. Natural
gas storage facilities are essential to balance the dramatic divergence between the seasonal and
daily variability of gas consumption and the inflexibility of gas production in North America.
Underground natural gas storage fields grew in popularity shortly after World War II. At the time,
the natural gas industry noted that seasonal demand increases could not feasibly be met by
pipeline delivery alone. In order to meet seasonal demand increases, the deliverability of pipelines
(and thus their size), would have to increase dramatically. In order to be able to meet seasonal
demand increases, underground storage fields were developed.
The U.S. Geological Survey originally proposed the concept of natural gas storage in 1909 and the
first successful underground natural gas storage facility was a depleted natural gas reservoir in
Welland County, Ontario, Canada, converted to gas storage operations in 1915. The first
commercial natural gas storage facility in the U.S. commenced operations at the Zoar field near
Buffalo, New York in 1916 - that field is still in operation today as a natural gas storage facility. By
1930, there were nine storage facilities in six different states. Prior to 1950, virtually all natural gas
storage facilities were in depleted reservoirs. A large majority of the existing North American
natural gas storage facilities currently in operation were developed prior to the early 1980’s and it
is estimated that North American natural gas storage working gas capacity grew at an annualized
rate of over 7% between the 1940’s and the late 1980’s. Since the 1980’s the pace of storage
capacity growth declined dramatically.
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3. Industry overview
Basic terminology
Natural gas is injected into the formation, building up pressure as more natural gas is added. The
higher the pressure in the storage facility, the more readily gas may be extracted. Wells are used to
inject and withdraw the storage gas.
Underground storage facilities contain what is known as “base gas” or “cushion gas”. At an
operating storage facility, base gas is comprised of both native and injected gas. Base, or cushion,
gas is the volume of gas that must remain in the storage facility to provide the required
pressurization to extract the working gas component.
“Working gas” is the volume of natural gas in the storage reservoir that can be extracted during
the normal operation of the storage facility. This is the natural gas that is being stored and
withdrawn; the capacity of storage facilities normally refers to their working gas capacity.
Periodically, underground storage facility operators may reclassify portions of working gas as base
gas after evaluating the operation of their facilities.
“Deliverability” is the measure of the amount of gas that can be delivered (withdrawn) from a
storage facility on a daily basis. Also referred to as the “deliverability rate,” “withdrawal rate,” or
“withdrawal capacity,” deliverability is usually expressed in terms of millions of cubic feet per day
(mmcf/day). Occasionally, deliverability is expressed in terms of equivalent heat content of the gas
withdrawn from the facility, most often in dekatherms (Dth) per day (U.S.), or terrajoules (TJ) per
day (Canada). The deliverability of a given storage facility is variable, and depends on factors such
as the amount of gas in the reservoir at any particular time, the pressure within the reservoir,
compression capability available to the reservoir, the configuration and capabilities of surface
facilities associated with the reservoir, and other factors. Peak, or maximum, deliverability is the
standard metric quoted when describing natural gas storage facilities.
“Injection rate” or “injection capacity” is the complement of the deliverability or withdrawal rate –
it is the amount of gas that can be injected into a storage facility on a daily basis. As with
deliverability, injection capacity is usually expressed in mmcf/day, although Dth per day or TJ per
day is also used. The injection capacity of a storage facility is also variable, and is dependent on
factors comparable to those that determine deliverability. By contrast, the injection rate varies
inversely with the total amount of gas in storage. The injection rate is highest when the reservoir is
most empty and decreases as working gas is injected.
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4. Industry overview
Types of underground storage
Depleted reservoirs
Depleted reservoirs are naturally occurring underground formations that originally contained and
produced oil, natural gas or both. To ensure containment within a depleted reservoir (a
requirement for any gas storage facility) there must be an impermeable cap rock and either
structural or stratigraphic containment on the flanks of the reservoir. The reservoir rock itself must
have sufficient porosity and permeability to allow the gas to migrate into the reservoir in the first
place and allow production of those accumulations of hydrocarbons through primary production.
All of Niska’s operating natural gas storage facilities are high quality depleted natural gas reservoirs
and some are capable of cycling their inventories up to 5.5 times per year. Higher quality
depleted reservoirs also have lower cushion gas requirements. Of the three primary types of
storage, depleted reservoirs are the least expensive to develop, operate and maintain.
The factors that determine whether or not a depleted reservoir will make a suitable storage facility
are both geographic and geologic. Geographically, depleted reservoirs must be accessible to
consuming regions. They must also be close to transportation infrastructure, including trunk
pipelines and distribution systems.
Geologically, depleted reservoir formations must have high permeability and porosity. The
porosity of the formation determines the amount of natural gas that it may hold, while its
permeability determines the rate at which natural gas flows through the formation, which in turn
determines the rate of injection and withdrawal of working gas. In certain instances, the formation
may be stimulated to increase permeability. Further, the reservoirs must be within an economic
depth interval, must not contain old leaky well bores, or have complicated geological structures.
In order to maintain pressure in depleted reservoirs, up to about 50% of the natural gas in the
formation must be kept as cushion gas. Depleted natural gas reservoirs require less injected
cushion gas because some native gas still remains.
Aquifers
Aquifers are underground porous, permeable rock formations that act as natural water reservoirs.
However, in certain situations, these water containing formations may be reconditioned and used
as natural gas storage facilities. As they are more expensive to develop than depleted reservoirs,
these types of storage facilities are usually used only in areas where there are no nearby depleted
reservoirs. Traditionally, because of the requirement to fill slowly while pushing water back, these
facilities are operated with a single winter withdrawal period.
Aquifers are the least desirable and most expensive type of natural gas storage facility for a number
of reasons. First, the geological characteristics of aquifer formations are not as thoroughly
understood when compared with depleted reservoirs because of lack of production wells and
history. A significant amount of time and money goes into discovering the geological characteristics
of an aquifer, and determining its suitability as a natural gas storage facility. Seismic testing must be
performed, much like is done for the exploration of potential natural gas formations. The area of
the formation, the composition and porosity of the formation itself, and the existing formation
pressure must all be discovered prior to development of the formation. In addition, the capacity
of the reservoir is unknown, and may only be determined once the formation is further
developed.
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5. Industry overview
Depleted reservoir – stratigraphic trap
*48%*48%
Depleted reservoir – structural trap
*38%*38%
Source: Niska
Note:
1 * Represents proportion of gas storage facilities in the U.S. as reported by EIA
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6. Industry overview
Salt cavern – storage reservoir
*4%
Salt Cavern
Salt Diapir
*4%*4%
Salt Cavern
Salt Diapir
Aquifer – no previous hydrocarbons
*10%*10%
Source: Niska
Note:
1 * Represents proportion of gas storage facilities in the U.S. as reported by EIA
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7. Industry overview
More extensive infrastructure must also be developed including: installation of wells, extraction
equipment, pipelines, dehydration facilities, and compression equipment.
In aquifer formations, cushion gas requirements can be as high as 90 percent of the total gas
volume. While it is possible to extract cushion gas from depleted reservoirs, doing so from aquifer
formations could have negative effects, including loss of effective permeability. As such, most of
the cushion gas that is injected into any one aquifer formation may remain unrecoverable, even
after the storage facility is shut down. Most aquifer storage facilities were developed when the
price of natural gas was low, meaning this cushion gas was not very expensive. As a result of
higher prices, aquifer formations are increasingly expensive to develop.
Salt caverns
Salt caverns are located in underground salt formations either in salt domes or in salt beds. The
caverns are typically solution mined by injecting fresh water through a well drilled into the salt,
dissolving the salt into brine with the fresh water and withdrawing the resulting brine for disposal
in underground rock formations near the salt cavern or for example, for use as feedstock in
chemicals manufacturing.
As compared to reservoirs or aquifers, salt caverns offer high rates of injection and withdrawal
relative to the amount of working gas capacity. The result is that the working gas capacity in salt
caverns can be cycled many more times than either reservoirs or aquifers, typically in the range of
12 annual cycles of working gas capacity. Salt caverns also require less cushion gas, usually 20% to
30% of the facility’s working gas volume.
Essentially, salt caverns are formed out of existing salt deposits. These underground salt deposits
may exist in two possible forms: salt domes and salt beds. Per unit development costs for salt
dome-based caverns are typically lower than the development costs for bedded salt-based caverns.
Salt domes. Salt domes are thick formations created from natural salt deposits that, over time,
flow up through overlying sedimentary layers to form large dome-type structures. They can be as
large as a mile in diameter, and 30,000 feet in height. Typically, salt domes used for natural gas
storage are between 1,000 and 2,500 feet beneath the surface, although in certain circumstances
they can come much closer to the surface.
Salt beds. Salt beds are shallower, thinner formations. These formations are usually no more than
1,000 feet in height and composed of multiple thin layers. Because salt beds are wide, thin
formations, once a salt cavern is introduced they are more prone to deterioration, and may also
be more expensive to develop than salt domes.
Salt cavern storage facilities are primarily located along the U.S. Gulf Coast, as well as in the
northern states, and are best suited for peak load storage. There are significant cost and schedule
advantages to using suitable existing caverns for gas storage versus custom brining of new salt
caverns. Salt caverns are typically much smaller than depleted gas reservoirs and aquifers. In fact,
underground salt caverns usually take up only 1/100th
of the acreage taken up by a depleted gas
reservoir. As such, salt caverns cannot hold the volume of gas necessary to meet base load storage
requirements. However, deliverability from salt caverns is typically much higher than for either
aquifers or depleted reservoirs. Therefore natural gas stored in a salt cavern may be more readily
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8. Industry overview
(and quickly) withdrawn, and caverns may be replenished with natural gas more quickly than in
either of the other types of storage facilities. Moreover, salt caverns can readily begin flowing gas
on as little as one hour's notice, which is useful in emergency situations or during unexpected short
term demand surges.
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9. Industry overview
Owners and operators of storage
The principal owners/operators of underground natural gas storage facilities are:
– Interstate pipeline companies. Interstate pipeline companies use underground storage to
facilitate load balancing and system supply management on their long haul transmission
lines.
– Intrastate pipeline companies. Intrastate pipeline companies use underground storage to
serve their end-user customers, as well as to facilitate load balancing and system supply
management.
– Local distribution companies (LDCs). LDCs use underground storage primarily to serve
customer needs directly, and,
– Independent storage operators. Independent storage operators use underground storage
almost exclusively to serve third-party customers.
Owners/operators of storage facilities are not necessarily the owners of the gas held in storage.
Indeed, most working gas held in storage facilities is held under lease with shippers, LDCs, or end
users who own the gas. On the other hand, the type of entity that owns/operates the facility will
determine to some extent how that facility's storage capacity is utilized.
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10. Value drivers
Basic valuation
Ownership of storage capacity is equivalent to owning a call option on spreads on natural gas
prices. It represents a right, but not an obligation, to inject gas at low prices and to withdraw gas
at high prices. Gas storage assets are often valued by owners using an option framework.
The option imbedded in a storage facility or storage contract is a complex combination of spread
options on natural gas prices. The underlying asset of the storage option is natural gas spot and
futures prices. The volatility of the prices and the correlation between gas contract prices at
varying dates impact the value of the storage option. The strike price of the storage option is the
total variable costs of the storage injection and withdrawal.
Like a standard option, a storage option value has an intrinsic component and an extrinsic
component. The price differential the storage asset owner can realize given the current spot price
and forward curve is the intrinsic value. The extrinsic value is the potential value the capacity
owner is expected to realize due to future movement of these prices. The option value of storage
is the sum of intrinsic value and any extrinsic value.
Operational and market drivers
There are several drivers that influence the value of a storage facility or storage contracts. These
drivers can be grouped into two broad categories: (i) operational characteristics, also referred to as
internal factors, and (ii) market characteristics, also referred to as external factors.
Operational characteristics include the injection and withdrawal capacity of the field in relation to
its storage capacity and the variable costs associated with injection and withdrawal. The location
of the storage facility within the natural gas infrastructure and access to multiple pipelines can also
be considered as characteristics representative of a storage facility that drive its value.
Market characteristics include the price level, seasonal spread, volatility of prices, correlation
between prices and the interest rate. These characteristics represent the market condition and play
a key role in determining the value of the storage facility.
Inventory level vs. injection / withdrawal capability
The greater the operational flexibility of the storage field, the greater the value of the storage
service. A high deliverability storage field is able to allow a storage contract holder to respond
more rapidly to price movements in the market. This enables the contract holder to take
advantage of short-term price arbitrage opportunities and creates incremental value. Both the
intrinsic and extrinsic values are impacted by the injection/withdrawal level relative to storage
inventory.
The figure following shows the sensitivity of storage value to the cycling capability for a sample
storage field. As the cycling ability of the storage field increases, the storage value increases.
Depending on the valuation methodology and optimization strategy, the relationship between
increasing flexibility and value is not necessarily linear. The rate of storage value increase slows
significantly beyond 2-3 cycle capability.
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11. Value drivers
Storage Value Sensitivity to Constraints
0 2 4 6 8 10 12 14
Constraints - Possible Cycles / Year
StorageValue
Total Storage Value
Extrinsic Value
LOW
HIGH
Source: Lukens Energy Group
Variable costs
Variable costs associated with storage injection and withdrawal are designed to cover the
operations and maintenance costs and the fuel loss. These costs reduce the price arbitrage
opportunity available to storage capacity holders. Storage facilities with lower variable costs offer
higher value since they allow a higher margin from price arbitrage.
Storage Value Sensitivity to Variable Costs
Variable Costs
StorageValue
High Cyclability Field - Total Storage Value
High Cyclability Field - Extrinsic Value
Low Cyclability Field - Total Storage Value
Low Cyclability Field - Extrinsic Value
LOW HIGH
LOW
HIGH
Source: Lukens Energy Group
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12. Value drivers
Seasonal spreads
The basis differential between summer and winter is a fundamental driver of storage value. The
main use of storage as discussed earlier is to mitigate the imbalance between a relatively stable
annual production rate and a highly seasonal demand pattern. Large spreads between summer
and winter prices provide greater value for storage services since injection is done in summer and
withdrawal in winter. Seasonal spreads predominantly impact the intrinsic value of storage.
Storage Value Sensitivity to Seasonal Spreads
$0.00 $0.10 $0.20 $0.30 $0.40 $0.50 $0.60 $0.70 $0.80 $0.90
Seasonal Spread ($/Dth)
StorageValue
Extrinsic Value
Total Storage Value
LOW
HIGH
Source: Lukens Energy Group
Basis differentials
Basis differentials represent the price difference between different market price indices for natural
gas. Typically the benchmark for future prices of North American gas prices is the NYMEX Henry
Hub contract. The further removed a storage facility is from the Henry Hub location, the greater
the likelihood of price changes away from Henry Hub.
A component of the seasonal spread can include differences between summer and winter basis
differentials.
Basis differential also acts as a driver of storage value for storage facilities with multiple pipeline
interconnects. Having access to multiple pipelines with imperfectly correlated prices allows the
storage holder to benefit from price movements between the pipelines and to inject gas into
storage from the lowest cost pipeline while withdrawing and selling gas into the highest priced
pipeline.
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13. Value drivers
Volatility
Movements in the futures and spot prices during the period of the storage contract offer
opportunities to re-optimize the storage portfolio and extract greater value from storage.
Volatility is a measure of price movements – greater the price movements, greater the volatility.
High volatilities increase the extrinsic value of storage assets because it creates more opportunities
for profitable storage optimization.
The figure below shows the sensitivity of storage value to volatility for storage facilities with high
and low cycling abilities.
Storage Value Sensitivity to Volatility
0% 20% 40% 60% 80% 100%
Volatility (Annualized %)
StorageValue
High Cyclability Field - Extrinsic Value
High Cyclability Field - Intrinsic Value
Low Cyclability Field - Extrinsic Value
High Cyclability Field - Intrinsic Value
LOW
HIGH
Source: Lukens Energy Group
Price levels
Absolute natural gas prices can drive the value of the storage asset in two ways. First, higher prices
will typically mean higher carrying costs for injecting gas into inventory. This implies that a higher
forward price seasonal spread is required to economically justify injecting gas into storage for
future withdrawal. Second, price volatility is often measured in percentage terms. Assuming
constant volatility, a higher price environment means greater changes in absolute prices. Also, high
price environments generally favor higher storage value since storage helps to mitigate the
exposure to price changes that can be significant when prices are high.
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14. Value drivers
Interest rates
Since storage is used for inter-temporal price arbitrage, the carrying cost of the natural gas as
represented by the interest rate is a factor that drives storage value. A low interest rate causes the
carrying cost of gas to be low, increasing storage value.
Industry fundamentals/infrastructure
The competitive position of a storage facility relative to comparable storage facilities can be a
significant driver of storage value. A storage facility can contribute value due to its location within
the natural gas infrastructure. This is especially true for market area storage facilities that offer
tremendous value in managing peak winter demand at costs that are usually much lower than
those associated with long-haul transportation from production areas. Another factor is the
presence of multiple pipeline interconnects. In addition to allowing arbitrage opportunities, access
to multiple pipelines increases the likelihood of having sufficient pipeline capacity to move gas out
of storage during high price environments when withdrawal is most valuable.
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