Canada: NEB Approves Keystone XL Pipeline Project: Market Forces Prevail As Key Public Interest Considerations

The National Energy Board has approved the Keystone XL Pipeline despite opposition from Enbridge and Enbridge shippers concerned about the negative impacts from potential offloading of the Enbridge system. The decision is consistent with, and reinforces, past Board reliance on commercial support for a pipeline project as an indicator of the public interest.

Introduction

On March 11, 2009, in its OH-1-2009 decision the National Energy Board (Board) approved construction of a new pipeline project proposed by TransCanada Keystone GP (TransCanada), known as the Keystone XL Pipeline Project or "KXL". This decision is significant as it will allow Canadian crude supply to directly access the US Gulf Coast (USGC) market. This is the largest refining market in North America and one which is readily capable of processing heavier crude types that are associated with oil sands developments and without the need for additional refinery investment. New market access and increased market diversification are two key outcomes for Canadian crude producers.

The approach taken by the Board in its OH-1-2009 decision is important as it reaffirms long-standing policy that new pipeline projects may be approved when adequate commercial support is demonstrated and notwithstanding the fact that negative economic impacts may result to an incumbent pipeline system due to increased competition and market choice.

Background

The KXL Project is a 36-inch "bullet line" providing direct pipeline access of 500,000 bpd to the USGC from one of the main crude storage "hubs" situated in Hardisty, Alberta. TransCanada secured long term firm commitments for approximately 55% of the KXL capacity via signed Transportation Service Agreements (TSAs), for an average contract length of 15 years, and submitted these contracts as evidence that the pipeline facilities were needed and would be used and useful over the economic life of the pipeline.

Industry was divided in its response to the KXL project. Eight KXL shippers (KXL Shippers) who had signed TSAs actively supported KXL, given its ability to access the USGC market. This access was viewed as mitigating against unfavourable pricing that would occur if incremental Alberta crude supply continued to be sold in the Chicago and mid-west US refining market. Limited refining market alternatives have existed for Alberta crude producers. This, coupled with the fact that the midwest market has pipeline access to other competing crude supply alternatives has caused Alberta producers to be "price takers." Access to an additional market should improve the prices that Canadian producers receive for their crude.

Conversely, several shippers on the Enbridge Pipeline Inc. (Enbridge) system either opposed or expressed reservations about the project. The Enbridge Mainline System presently transports much of Canadian crude production from western Canada to Chicago markets and ultimately Sarnia, Ontario. In anticipation of increased oilsand production volumes (an increase which may not occur at the same rate as initially forecasted), the Enbridge Mainline System is currently being expanded pursuant to the Board's approval of Enbridge's "Alberta Clipper" project (OH-4-2007). If the Mainline System were to be offloaded by KXL, under the toll structure in place the per barrel cost of shipping on the Mainline System would rise – an industry impact that was characterized as contrary to the Canadian public interest.

In response to this concern, and supported by some producers, Enbridge played a significant role during the oral portion of the public hearing advocating the "Gretna Option" as being an alternative to the KXL Project. The Gretna Option consisted of a proposed Transportation by Others (TBO) arrangement between Enbridge and TransCanada on the Enbridge system between Hardisty and Gretna, Manitoba. In other words, TransCanada would contract for use of part of Enbridge's Canadian system, thus mitigating the offloading impact. From Gretna, Manitoba, Enbridge proposed that the KXL Project should then continue due south to the USGC.

Enbridge's position was that constructing the KXL Project in this manner would better utilize existing (and soon to be constructed) capacity and reduce the amount of offloading that would occur to the Enbridge system. Enbridge, however, had not progressed development of the Gretna Option. No consideration had been given to the engineering, routing or environmental implications of this alternative. Despite this, Enbridge and other producers argued that even at the conceptual stage, the Gretna Option was in the public interest and that the only way for it to progress forward was through the denial of the KXL application.

The Decision

The Board approved the KXL Project as filed. In doing so, the merits of the Gretna Option received very little attention. The Board was critical of the lack of definition to the Gretna Option and indicated that, if it was a serious option and sufficiently commercially attractive, parties could continue to pursue it outside of the Board hearing process. Specifically, the Board stated that its interference with competitive forces in this regard would be contrary to the public interest. The Board also indicated that it had not been presented with "cogent evidence" that sophisticated industry parties would be unable to manage offloading costs and, taking into account the projected growth profile of Canadian crude production, accepted that increases in pipeline capacity could be "lumpy" with temporary periods of excess capacity.

The Board also accepted that, despite the fact that only 55% of KXL capacity was under contract, the applied-for capacity (including the ability of the pipeline design to easily expand) was justified in light of anticipated market requirements in the future. However, despite this potential for expansion, to satisfy TransCanada's common carrier obligation under the National Energy Board Act the Board rejected TransCanada's proposal that only 6% of KXL capacity be set aside for spot shipments, and imposed a condition that the Tariff explicitly reflect that 12% of the capacity be available for non-firm service.

Implications

• Pipeline proponents will have to continue to be able to demonstrate that projects have adequate commercial support before proceeding given the Board's reliance on market forces. Consistent with its past decisions approving the Alliance pipeline (GH-3-97) and the Express pipeline (OH-1-95) and in clear language, the Board relied on contractual support to establish the need for pipeline facilities.
• Any party advocating that the Board adopt an alternative instead of the applied-for project must be able to make the case for the alternative with substantial context and detail.
• The Board's approval of the expandability of the pipeline should encourage pipeline proponents to take some risk by integrating the potential for future expandability into the engineering design.

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