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Lack of natural gas pipelines could impact oil output

Producers may seek to expand flaring to keep oil flowing

Citi says severe glut could send Waha gas price to zero

A natural gas bottleneck in the Permian Basin could force oil producers to shut wells or seek waivers to flare large amounts of natural gas if takeaway capacity does not catch up by the end of this year.

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Texas Railroad Commissioner Ryan Sitton said in an interview with S&P Global Platts that he may support lobbying state and federal environmental authorities to allow expanded flaring from natural gas processing plants, which would be able to separate and produce NGLs and condensates after flaring off the dry gas.

"If I don't have pipeline capacity and I can't flare it, the only option is to shut in the well," Sitton said Thursday. "And now I'm going to shut down oil production because I don't have anything to do with my gas. That is a realistic scenario that could happen."

Citibank said in a report Thursday that a severe natural gas production glut could depress natural gas prices "even to zero and curtail oil and gas production."

"What if the Permian is bottlenecked not so much because of a lack of oil infrastructure but more because of a lack of natural gas pipes?" Citi's Anthony Yuen wrote. "Oil can be shipped on pipes, rail or trucks, but gas has to be transported on pipelines. Thus, more pipes are needed."

S&P Global Platts assessed natural gas at the Waha Hub in Pecos County, Texas, at $1.89/MMBtu Thursday, a discount of 98 cents to Henry Hub.

S&P Global Platts Analytics has not cut its Permian oil projection next year due to natural gas pipeline constraints but is continuing to monitor the situation, said Rene Santos, senior director for E&P analysis.

Platts Analytics projects Permian oil output to average 3.3 million b/d in the second half of this year, then rise to 3.5 million b/d in H1 2019 and 3.9 million b/d in H2 2019.

"We understand that producers are allowed to flare for up to 180 days but suspect that if the volumes get too large, the authorities in Texas and New Mexico will not be happy since the state loses revenue from the gas that is flared and also due to the environmental concerns from flaring large volumes of gas" Santos said.

The Texas Railroad Commission regulates natural gas flaring from the wellhead and typically approves requests for up to 180 days, on the theory that producers can sort out most transportation or processing plant issues in that time, Sitton said.


PRODUCTION OUTPACING PIPELINES


The Texas Council on Environmental Quality and the US Environmental Protection Agency would have to approve any requests by gas processing plants to increase flaring.

Sitton said Permian producers have been raising the issue to him, with some seeing it coming to a head in three months and others into first-quarter 2019.

"I think it's probably end of this year when it really starts to get pretty tight," he said.

Platts Analytics said Permian natural gas takeaway capacity has increased incrementally in recent months, such as 130 MMcf/d added this month by Transwestern to its compressor system leading out of the basin as well as an uptick in volumes moving to Mexico to serve demand in Chihuaha.

Despite expected capacity additions, Citi expects the Permian natural gas glut and Waha price discount to Henry Hub to get worse from now to the end of 2019 as production growth outpaces pipeline expansions.

Citi said flaring might not work as well as a last resort for the Permian, despite Texas' reputation for being friendly to the fossil fuel industry.

"The image of West Texas lighting up in photos or satellite images due to extensive flaring for an extended period could become a public relations nightmare, as it did in North Dakota," Yuen said in the Citi note, adding that the University of Texas system owns a lot of Permian land and mineral rights and could come under pressure if flaring increases sharply.


TOUGHER ISSUE THAN BAKKEN FLARING


Sandy Fielden, director of oil and products research at Morningstar Commodities and Energy, agrees that the Permian will have a natural gas takeaway crunch by year's end. He said the issue is more complicated than what Bakken producers faced in 2014, when up to 30% of natural gas was being burned off to keep oil production flowing.

"A lot of that was due to a complete absence of pipeline hook-ups from the wellhead as well as very limited takeaway capacity out of the region," Fielden said of the Bakken.

"In the Permian, the pipelines are there -- the gas just doesn't want to flow. There may be relief through pricing collapse as Permian gas moves north and east (or west to California) into other markets since producers probably don't care too much about associated gas values when crude is $70/b," he said.

Sitton said natural gas market conditions may be able to sort out the problem before it starts to impact Permian oil output, for instance if natural gas wellhead prices dip so low that enough dry gas production gets shut in.

"One operator said to me: 'I've already contracted all the firm capacity I need for my gas at a Waha price or wellhead price of $1.80/MMbtu," Sitton said. "If I can have an oil producer that's willing to pay someone to take his gas, I'll shut my dry gas well in and I'll take their gas for free and put that into the pipeline."

--Meghan Gordon, meghan.gordon@spglobal.com

--Edited by Derek Sands, newsdesk@spglobal.com