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Providing coverage of Alaska and northern Canada's oil and gas industry
February 2009

Vol. 14, No. 8 Week of February 22, 2009

More Cook Inlet gas storage needed

DOG wants to issue new storage leases for facilities that would bolster winter gas supplies and improve gas field economics

Alan Bailey

Petroleum News

Alaska’s Division of Oil and Gas has been looking into the possibility of additional gas storage facilities in state land in the Cook Inlet basin, division Director Kevin Banks told the Senate Resources Committee on Feb. 9. There are currently three storage facilities in operation around the Cook Inlet — at Pretty Creek on the west side of the Inlet and in the Kenai and Swanson River fields on the east side of the Inlet.

“We’re looking at a fourth storage facility and will be working with a potential lessee in the winter of (2009-) 2010,” Banks said.

And on Feb. 11 Alan Dennis, the division’s royalty manager, told the Regulatory Commission of Alaska that the division has been engaged in discussions with several entities regarding additional gas storage around the Cook Inlet.

“We have begun to have conversations with a number of different interested parties,” Dennis said.

Tight supplies

As gas reserves in Cook Inlet gas fields discovered several decades ago have run down, gas supplies in Southcentral Alaska have tightened. And in the cold, dark winter months, when demand for utility gas for heating and power generation soars, gas producers have had to run the gas wells at full throttle. During the coldest weather, gas earmarked for the liquefied natural gas export facility at Nikiski on the Kenai Peninsula has had to be diverted for utility use.

At the same time, new would-be gas producers find it difficult to enter the small Cook Inlet gas market to bring more gas on line.

“The division believes that gas storage is a way to help solve some of these problems,” Dennis said. “We’ve been approached by a number of different parties to provide additional land leases to provide storage to the basin.”

In November the division sent a letter to all Cook Inlet producers and utilities, asking them for their views on future gas storage needs, Dennis said.

“We thought that it was appropriate to approach this in a more systematic way than just wait for someone to approach us,” he said.

Dennis said the division has discussed the possibility of establishing new gas storage facilities in the Nicolai Creek or Lone Creek fields on the west side of the Cook Inlet, or in the Kasilof field on the east side of the inlet. However, Dennis stressed that these discussions had not necessarily taken place with the field operators.

In an underground storage facility of the type that the division would lease, gas is injected into a depleted gas reservoir during the summer when utility gas demand is low. The stored gas is then produced from the reservoir in the winter when demand is high.

Nicolai Creek storage would have a notional capacity of 1 billion cubic feet, Lone Creek 2 bcf to 3 bcf and Kasilof 4 bcf, Dennis said. By comparison, the Kenai facility, by far the largest of the existing gas storage units, has a capacity of 6 bcf, he said.

And the division hopes that a fourth Cook Inlet storage unit would support third-party users — either gas producers or utilities — rather than a single gas producer, Banks said. The current producer-operated storage facilities hold a reserve of summer gas to help individual producers meet their gas-supply contractual commitments during the winter.

Deliverability

Gas storage addresses the issue of gas deliverability — the rate at which gas can be flowed to customers during periods of high demand.

In the days of abundant Cook Inlet gas, winter demand could be met by drawing more gas through existing gas wells, Banks said. But nowadays gas flow has to be boosted by drilling more wells.

“As we’ve drained those gas fields … to provide deliverability in the wintertime more and more straws have to be drilled into the bubble,” Banks said. “That means that those straws are not used during the summer time when there isn’t the same kind of demand.”

And the industrial use of Cook Inlet gas has dropped. Years ago, the Kenai Peninsula LNG and fertilizer plants provided a leveling effect on year-round gas demand by consuming excess summer gas. However, the fertilizer plant has closed and the LNG plant is now running below full capacity.

By stockpiling summer gas, storage can help replace some of that demand leveling.

But Dennis and Banks both pointed out that gas storage available to third parties could also play a significant role in the dynamics of the Cook Inlet gas market.

The availability of gas storage could provide a market opening for new producers while also providing a market for that excess summer gas. Essentially, the storage could provide producers with an opportunity to capture peak pricing during the summer, Dennis said.

“The division believes that third-party access is really important,” Dennis said.

Contracted supplies

Cook Inlet gas is sold through gas supply contracts in a small, isolated market. Production coming on line from a gas field operated by a producer new to the region is likely to have to wait for the availability of one of those supply contracts — that wait would move production out into the future.

“In a market where the ability to sell the gas is constrained because the market is tied up with long-term contracts, basically you have to wait for your place in line to be able to sell your gas,” Dennis said. “… The reality is … that instead of earning the revenue that is associated with high production early, you’ve got much lower cash flow.”

That deferral of the cash flow reduces the net present value of the investment in a new gas field, Banks said. And the seasonal swings in Cook Inlet demand could worsen this deferral effect by forcing a field to shut production down in the summer, Dennis said.

“Basically those two factors really impact how an explorer might think about what they would be willing to pay … to develop various fields,” Dennis said.

But by providing a summer market for peak gas from any producer, gas storage could help address both factors.

Fees

However, there are some significant questions regarding the fees the division would charge for a storage lease operated for third-party use. In particular, fees might need to reflect the fact that the commercial value of the storage would tend to be positioned out in the future.

“One approach that we’ve discussed is that we might charge a very nominal fee initially and once payout occurs the landowner would expect a somewhat higher price,” Dennis said.

Other possibilities include charging a nominal fee that is contingent on the lessee providing third-party access. Or the division could simply extract as much commercial value as possible from the leases.

However, a key factor in determining the viability of establishing these new gas storage facilities would be the difference between summer and winter utility gas prices — Cook Inlet utility gas is currently sold at a constant year-round price, although some recently proposed supply contracts have included price tiering for winter demand.

“If there is a substantial difference between summer and winter prices in these contracts, that difference in pricing is what will underwrite the cost to develop gas storage,” Dennis said.

In fact, this seasonal price differential would ultimately determine how much gas storage is needed, he said.

Regulation

Dennis also said the division thinks RCA regulation of Cook Inlet gas storage would help with storage lease negotiations.

“We have a strong desire to see an open and competitive market,” he said.

And the regulatory framework for gas storage involves many landowners, including the University of Alaska, Cook Inlet Region Inc. and private individuals, each of which has rights and obligations. RCA and perhaps the Alaska legislature need to determine what the RCA role should be, Dennis said.

At the end of Dennis’s RCA presentation Commissioner Anthony Price undertook to conduct an enquiry into the scope of possible gas storage regulations, as a prior action to opening an RCA gas storage docket. RCA Chairman Robert Pickett requested that the scoping document be completed for presentation at the first RCA public meeting in March.






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