The Gas Research Institute (GRI) last week projected domesticnatural gas consumption will rise by about 30%, or 9.5 quadrillionBtus (quads), to nearly 32 quads by 2015. It predicts producers,both in the United States and Canada, will be able to rise to thedemand challenge, but it concedes the road ahead won’t be easy asproducers face low gas acquisition prices in the early 2000s andthe possibility of having to achieve an even higher demand level ifthe restrictions on greenhouse gas emissions in the controversialKyoto accord are ratified. Significantly, the institute also seesnatural gas – which in the past has been considered the step-sisterof crude oil – becoming the more “dominant” source of revenue forproducers in the early 2000s, helping to offset the effects ofdepressed crude prices on producers’ cash flows.

Gas demand is expected to grow at an annual rate of 2% between1997 and 2015, outstripping the 1.8% annual growth rate anticipatedfor all U.S. energy consumption during the same period, accordingto the annual GRI Baseline Projection of U.S. Energy Supply andDemand study that was issued at a press briefing in Washington D.C.Gas would lag behind oil’s share (43.9 quads) of the overall energymarket by 2015, but it would out-distance coal (27.1 quads).

When examined by sector, about three-quarters of the projecteddemand growth for gas by 2015 will come from power generation (3.3quads in 1997 to 7.3 quads by 2015) and industrial (from 10.1 quadsto 13.3 quads), with the balance from the residential (5.1 quads to5.8 quads) and commercial markets (3.4 quads to 4 quads). Coal isexpected to maintain its dominance in the key electric generationmarket, rising from 18.5 quads in 1997 to 24.5 quads by 2015,largely due to its lower costs.

To achieve a 32 Tcf market, GRI estimated gas producers must beprepared to add 0.5 Tcf annually over an 18-year period, which itbelieves is doable. It noted the gas industry faced a much tougherchallenge than this in the period spanning from the mid-1950s tothe early 1970s when it successfully added a total of 13 Tcf, or0.8 Tcf a year, to the nation’s natural gas supply. This timearound producers have the advantage of advanced drillingtechnology, such as 3-D and 4-D seismic technology, horizontaldrilling techniques and deep-water capabilities, GRI said.

But GRI concedes that a potential problem would arise if thegreenhouse gas emissions restrictions called for under the Kyotoaccord are placed into effect during this period. Some energyanalysts already have begun to project that the gas market couldexceed the 30-Tcf level much earlier than anticipated – by 2010.But GRI said it doesn’t see this happening until “several yearslater” under its current projection. If the Kyoto accord isratified, however, it conceded the 30-Tcf hurdle might have to bemoved up by about five years. This would put pressure on gasproducers to work harder to add 0.8 Tcf of gas a year, rather than0.5 Tcf a year, to the nation’s gas supply, and would create an”upward bias” in gas prices.

In its study, GRI proposed several scenarios for reducing carbondioxide emissions in the electric generation, industrial andtransportation sectors that could potentially result in an increasein gas demand by more than 8 quads by 2015, or almost $23 billionin additional revenues.

GRI sees the gas supply to the lower 48 states rising from 21.5Tcf in 1997 to more than 30 Tcf by 2015 – about even with theexpected demand assuming that the Kyoto accord isn’t ratified. Itestimates 55% of the increase in production will come from theoffshore, specifically the Gulf of Mexico and the Norphlet. By2015, GRI said production from the Gulf alone will reach 9 Tcf, upfrom about 5 Tcf in 1997. Onshore production will grow 20% to 16.9Tcf by then, with much of the growth taking place in the West -particularly in the Rockies, Overthrust Belt and the San JuanBasin. Other key producing areas will be Appalachia and NorthCentral (includes the Great Lakes region and areas as far west asSouth Dakota and as far south as Arkansas), with gas outputexpected to almost triple to 2.9 Tcf by 2015.

The GRI study said infrastructure constraints will pose few, ifany, problems for onshore and offshore drilling during this period.Gas imports, mainly from Canada, are projected to grow 14% to 3.5Tcf by 2002, and then are likely to “remain relatively flat due tolimitations on the availability of competitive Canadian supplies.”

In the long term, Gulf producers are “going to win out in [the]competition” with Canadian producers over U.S. market share, saidJohn C. Cochener, principal analyst for the Resource EvaluationBaseline/Gas Resource Analytical Center. He believes lower costproduction from the Gulf is “likely to overwhelm” Canadianproducers in the end.

The toughest challenge for producers will come in the early2000s when they will face deteriorating cash flows and wellheadprices, GRI said. “When the low point is reached, it is uncertainhow producers will react in such a pessimistic environment. Willthey retrench and cease making E&ampP investments or will theycontinue investing for the long term? How producers react to theuncertainty at this juncture will determine the degree to which thesupply requirement is fulfilled.” This is particularly crucialsince about 35% of the projected gas supply by 2015 will depend oninvestments in new technology, GRI noted. Without such investments,it predicted domestic gas supply by 2015 will be less than what itwas in 1997.

Gas Overtakes Crude

GRI predicts the downward direction will reverse itself in 2005,with gas for the first time in the United States becoming a biggercontributor to the cash flows of producers (at least 50%) thancrude oil (30-40%). It estimates natural gas will account for$55-$60 billion of producers’ revenues by 2015, helping to offsetdepressed crude oil prices. In addition, real gas acquisitionprices (wellhead plus gathering) are expected to rebound in thepost-2005 period. These factors, according to GRI, will help tospur exploration and production (E&ampP) activity.

GRI sees real gas acquisition prices beginning their softeningtrend within the next few years as new Canadian supplies – bothfrom Alberta and Maritime Provinces – come to market and as newproduction from the deep-water Gulf begins. It predicts realacquisition prices will fall from about $2.31/MMBtu in 1997 to$1.95/MMBtu, and then will rebound reaching about $2.30 per MMBtuby 2015. But despite the rebound, it said weighted real burner-tipgas prices will fall from $4.34/MMBtu in 1997 to $3.87 per MMBtu by2015.

The reason for the anticipated “steady decline” in the weightedaverage real burner-tip price will be owing to the “gradualerosion” of the real transmission and distribution (T&ampD) marginover time, according to GRI. While the nominal T&ampD margin (thedifference between the acquisition price and the burner-tip price)is expected to rise from $2.03/ MMBtu in 1997 to $2.76 per MMBtu in2015, the rate of increase (less than 1.7% a year) is likely to laginflation so the real T&ampD should drop from $2.03/MMBtu ofdelivered gas in 1997 to $1.59 per MMBtu by 2015, the study noted.

The decline in the real T&ampD margin, GRI said, will be due tothree factors: 1) a change in gas customer mix, with a greaterportion of total gas sales going to large-volume industrial andelectric generation customers; 2) with the completion of theMaritimes &amp Northeast Pipeline, the transmission distance tomarket, competitors and customer mix (more high-volume customers)are expected to change dramatically in the Northeast, driving downT&ampD margins in both the New England and Mid-Atlantic states; and3) expected continued technology improvements and operation andmanagement (O&ampM) cost reductions are expected to hold downfuture cost increases.

On a related issue, GRI noted investments in new pipelines tobalance out supply and demand in the United States are consistentwith historical levels on an annual basis. It estimated $12.8billion of new pipelines representing 22.7 Bcf/d of additionalcapacity will be needed in the United States between now and 2015,including $4.1 billion to bring in Canadian imports, $1.8 billionto transport offshore gas, $2.2 billion in the Rockies, and $4.7billion for the rest of the United States.

The $12.8 billion investment is “roughly twice” the amount spenton new pipelines between 1991-1997, GRI noted, but it will bespread out over double the number of years. “On an annual basis,this equates to approximately $750 million (1997 dollars) per yearin each time frame. Thus, future annual investment requirements arefairly comparable in each period.”

Susan Parker

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