November 14, 2018

Judge Temporarily Blocks Construction of Keystone XL

Stratas Advisors

A judge late Nov. 8 blocked construction of the Keystone XL pipeline, the latest in the back-and-forth legal tussle that is entangled in the 1,200-mile project’s fate.

Federal Judge Brian Morris of Montana said in his ruling that the State Department ignored issues of climate change, among other factors, which helped advance President Trump’s goal of making the pipeline a reality. Morris ruled that the government violated the Administrative Procedure Act, which requires “reasoned explanations for government decisions, especially when they represent reversals of well-studied actions.”

The court’s decision does not mean that the Keystone XL is permanently blocked. It means that the State Department will have to broaden its study of the pipeline’s impact to include possible effects on climate change, endangered species and cultural resources.

So where does all of this lead for this project, which has been on-and-off for a decade?

Greg Haas, an analyst for Stratas Advisiors, who covers the midstream segment, said, “We think surely these aspects of the court’s order will be appealed to the Federal Appeals Court system. For this case, that means out to the Ninth U.S. Circuit Court of Appeals on the West Coast. There, the political bent may not necessarily be favorable to the Trump Administration or the fossil energy industry. If any appeal at the Ninth US Circuit Court fails, perhaps the defendants may take this to the Supreme Court.  All of this is to say that this new order in Montana could represent years of delay.” 


Furthermore, if the Montana court's logic stands, we wonder if any permit ever be "final" or acceptable since prices are always shifting and industry accidents will always happen and generate new information?


Coup de Grace?


Perhaps the most smarting outcome of the Morris orders dealt with the court's vacate of the project’s presidential permit. The order vacated the March 2017 approval by the Trump State Department in the official Record of Decision that approved the presidential permit to Keystone to construct, connect, operate and maintain its proposed pipeline facilities.


The court instructed the State Department to give a "reasoned explanation" for the 2017 favorable decision under the Trump State Department, which the court noted is a "change in course" from that of the Obama State Department. 


We recall that then-acting Secretary of State John Kerry said that the decision to reject the pipeline permit was not made solely on a reasoned examination of the numbers but to show US leadership on climate change combat before the congregants in the Paris climate meetings of 2015. So it may not be too hard for the current Trump State Department to give a reasoned explanation for a reversal of a non-reasoned decision made by the Obama State Department.


The US Needs Heavy Crude, From One Supplier or Another


So where does all of this lead for this 10+ year old Keystone XL project which intends to bring heavy crude by secure pipeline to the U.S. reining network?    


We have been of the opinion that the approval process for all cross-border pipelines would remain contentious and take longer than anticipated. We have had the greatest visibility on the Enbridge Line 3 expansion and replacement project.  Accordingly, we have long held the opinion that this is the one project most likely to advance in the most timely and certain way.  The Enbridge Line 3 project will add 375 Mbbl/d of takeaway capacity by YE19 if disclosed project timelines hold. 

Other projects Enbridge has recently disclosed could be implemented to add 450 Mbbl/d in the 2020s.  And we believe most of these will not need cross-border permits.


We see the Keystone XL pipeline, or other projects like those potentially executed by Enbridge, as necessary in the face of declining heavy crude production in nations for which U.S. refiners and drivers have long relied upon as an import source.  The U.S. is a net petroleum liquids importer. 

The biggest U.S. heavy crude import source is Canada, our near-north neighbor whose oil is sent via secure pipelines as well as by rail and other surface tanker logistics. Our next largest import sources for heavy crude are Mexico and Venezuela, both of which are experiencing substantial declines in output.


Declining Heavy Supply Options Elsewhere


Mexican output is falling due to natural field aging and decline, while Venezuelan heavy output is falling due to worker and wage shortages and falling investment as Venezuela’s economy sinks ever deeper into disfunction. These factors too, have worsened since 2014. Yet this new information was arbitrarily not cited yet in the court case. Hopefully the State Department in 2018 will address this new information in any new presidential permit-related analyses as well.


As Venezuelan and Mexican crude declines, so does the supply of heavy crude to U.S. refineries. And so will then the supply of fuels made from heavy crude in the U.S.


Mexico and Venezuela started this decade by sending the U.S. a combined 2.3 MMbbl/d of mostly heavy crude oil.  Fast forward to this year, we see EIA data showing that in 2018ytd, the pair has sent to the U.S. just 1.35 MMbbl/d. That's about 1 MMbbl/d less over the 8 years.  And yet, Canadian crude imports have risen steadily to feed new heavy crude refineries and to make up for the decline (up to 4.3 MMbbl/d 2018ytd vs. 2.5 MMbbl/d in 2010).


On a shorter term basis, compared to last year to date, heavy imports into the U.S. refinery network have grown by 251 Mbbl/d from 5.41 MMbbl/d all the while that new U.S. shale production has surged to record levels (year to date 2018 crude production now running at 10.6 MMbbl/d, up 1.5 MMbbl/d over the 9.1 MMBbl/d seen for the same 2017ytd period). So the recent rise in light shale crude production has not slowed the rise in imports of heavy crude. That's because light crude is a mismatch for heavy crude refineries and therefore it is  superfluous to the refineries that need and refine heavy crude.  And because Mexico and Venezuelan supplies of heavy crude are faltering, Canadian heavy crude imports are rising.  

US Energy Security This Century Means Canadian Crude Pipelines


Extend these long-term trends into the next decades and it is clear to us that there is an energy and economic security need for pipeline connectivity to secure Canadian heavy oil.  And from a climate perspective, we believe there is greater likelihood of global carbon footprints related to the petroleum industry as being lowered in Canada where investment and expertise is aligned as compared to the faltering and declining suppliers of heavy crude in other export nations outside of North America. 

We believe that U.S. energy security would be more greatly ensured by greater access to heavy crude in the volumes needed by U.S. refineries to satisfy U.S. demands for refined fuels made from heavy crude.


Given worsening shortfalls in alternate national providers, that in turn places a need for secure movements of Canadian crude into the U.S. The TransCanada Keystone XL project and other noted projects by Enbridge Corp. can be part of that energy security.

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