KMP Will Seek Approval For Trans Mountain Expansion To Cash In On Oil Sands Production Growth

Kinder Morgan Energy Partners (NYSE:KMP) is set to file a formal application with Canada’s National Energy Board in mid-December to nearly triple the capacity of its Trans Mountain pipeline. ^[1] The expansion of the pipeline, which carries crude oil from the oil sands region in Alberta into Canada’s Pacific coast, is important for Canadian oil producers since it would ease some logistical bottlenecks that they have been facing and would also help to reduce their dependence on exports to the United States.

Trefis has a $92 price estimate for KMP, which is about 13% ahead of the current market price.

See Our Complete Analysis For Kinder Morgan Energy Partners

Logistical Bottlenecks Have Limited Oil Sands Output And Price Realizations

Canada holds the third-largest crude oil reserves in the world, behind Saudi Arabia and Venezuela. The country has a total of around 173 billion barrels of oil, of which about 168 billion barrels lie in the oil sands region in Alberta. ^[2] Oil sand is a blend of sand, clay, water and bitumen. which is thick and heavy oil. Recent improvements in production technology have made it viable to treat and refine this bitumen into fuels such as diesel and gasoline. However, production growth from the oil sands has been somewhat slow, rising from just about 1.6 million barrels per day (bpd) in 2010 to about 1.8 million barrels in 2012. This is partly due to the fact that Alberta is a landlocked region and the pipeline infrastructure, which is required to carry oil to refineries, ports and end-markets, has been somewhat lacking. The lack of pipelines has also been partly responsible for limiting the price realizations for Canadian crude producers. For instance, Western Canadian Select, which is the regional crude oil benchmark, currently trades at around $63 per barrel, when compared to around $95 per barrel for the U.S. benchmark WTI and $110 per barrel for Brent Crude. ^[3]

At present, a large part of the crude oil produced in Canada is exported to the United States. However, the U.S. is becoming an increasingly oversupplied market due to a ramp up in domestic shale oil production. The long-term prospects for Canadian exports to the U.S. look somewhat lackluster, since the U.S. is set to become the world’s largest oil producer before the end of this decade. This makes it critical for Canadian oil producers to tap into other offshore export markets such as Asia. However, westbound pipeline infrastructure connecting Alberta with ports in the Pacific coast is still relatively limited and would need to expand significantly to cater to the projected growth in oil sands production. Production is expected to rise three-fold to around 5.20 million barrels per day by 2030. ((Canadian Association Of Petroleum Producers))

At present, KMP’s  Trans Mountain pipeline is the largest westbound pipeline from the oil sands region. The 715 mile pipeline originates in Alberta and transports crude oil and refined petroleum products to the west coast of British Columbia. KMP intends to cash in on the growing demand for westbound shipments by expanding capacity on the pipeline from around 300,000 bpd to about 890,000 bpd, with an investment of around $5.5 billion. Construction work relating to the expansion is expected to begin in late 2015 and the new capacity could come online by late 2017.

Approval And Construction Should Be Relatively Smooth

Other pipeline companies have also set their sights on this under-served route. Enbridge Inc. proposed its 500,000 bpd Northern Gateway pipeline, which would extend from the oil sands region to British Columbia, but the project has been postponed several times due to opposition from aboriginal groups and regulatory delays. However, we believe that Kinder Morgan may not face such obstacles since its proposed expansion involves twinning the existing pipeline and would use the company’s existing right of way (wherever possible), meaning that it will be able to expand capacity by adding parallel pipes without having to go through greenfield routes.  Additionally, we do not foresee the company facing significant regulatory hurdles since the pipeline would facilitate growth in production from the oil sands region, which would in turn contribute to more royalties and taxes for Canada’s provincial and federal governments.

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1. WSJ [↩]
2. Quarterly Update, Alberta Oil Sands Industry [↩]
3. Financial Times [↩]