7 Natural Gas Industry Agreements in 10 Minutes

The commercial dynamics of natural gas projects present legal practitioners and negotiators with challenging but rewarding complexities. Natural gas industry agreements have a healthy combination of very contentious commercial issues (price, price adjustments, capacity obligations, and structure of primary term) and intricate legal issues that let the legal professionals debate to their heart's content (liability, indemnity, jurisdiction selection, custody, international borders, etc.). So to open the hood a bit on what is inside, here are 7 Natural Gas Industry Agreements explained in what shouldn't be more than 10 minutes of reading.

1. The GSA

The GSA or the Gas Sales Agreement is an exchange of natural gas at a delivery point (a specific location where the gas changes hands) for a sum of money. GSAs can be short term, mid term or long term and vary from simplistic to complex. GSAs can also occur along multiple points in the value stream. A producer could sell his gas at the wellhead, the gatherer (regional small diameter pipeline owners) could than pass along the gas to the interstate pipeline via another agreement and then ultimately sell the gas to the power generation plant.

Fundamental issues you encounter in a GSA negotiation are as follows. First and foremost is the price. The price ultimately determines the economic viability of the project and will almost always be the first item discussed. Engineers and economists play a large role in this negotiation and should either be integrated early or lead the negotiation. Of similar importance is the duration. The duration ensures a cash flow stream will be long enough to justify both the upstream and down stream investments. An insufficient duration can strand the gas and lead to the premature end of a project. With large investments at stake, credit support for commitments is also at the forefront. While it is more common for seller's to request buyers back up their commitment to take, both parties will be interested in examining whether a Parent Guarantee, LC, or Bank Guarantee is worth obtaining.

While many more ancillary issues will make or break the deal, the structure of how gas is delivered is also one of the most fundamental items to understand. A Take or Pay structure allows a buyer to take gas and pay for gas, but also gives them the option to not take the gas and still pay for it. That optionality is important to understand, because it typically drives the price up a bit. A producer who has to find a different location to deliver gas will ultimately want a premium for temporarily stranded gas. Facilities typically run at a near constant rate and such a disruption in the marketing stream will have to be accounted for by a 3rd party sale or flaring (which is rarely permissible by law anymore). Similar to Take or Pay is the Take and Pay structure. In a Take and Pay structure the buyer must both take the gas and pay for the gas. It does not have the option like in Take or Pay to reject the shipment. Because of this commitment to take, the price will tend to be a bit lower. Without the extra optionality, there is less justification for extra consideration. Master Sales Agreements are also used and tend to rely on supplements focused on short term or one off gas buying and selling.

2. The GTA

The GTA is the Gas Transportation Agreement and sometimes known as the Gas Transportation Services Agreement. Fundamentally the GTA is an exchange of pipeline capacity or pipeline transporting services for money. That exchange for money is rarely as simple as what is found in a GSA because the transporter will typically charge what is known as a tariff. The tariff can be determined by a flat rate, the number of zones you pass through with your gas (think the way you are charged by passing through the different colors of the London tube system), the volume of the gas being transported, or the calories (how much energy the gas can produce at a power plant) shipped.

Important issues that may impact your GTA often relate to the compatibility of your gas stream to the pipelines' capabilities. For instance, if the operating pressure (the force that gas applies on the walls of the pipe) is mismatched, the result is the need to negotiate infrastructure build out into your CPs in order to reduce the pressure. That will increase the financial risk for the transporter if they commit capacity to you and therefore justify a premium price. Similarly if your gas stream could produce at higher volume levels than the pipe can handle, you will want to consider negotiating with a line that has current necessary capacity to handle excess amounts. If the line does not have that capacity the result in negotiations will again be the need for infrastructure build out and increase financial risk.

The final point I will mention on GTAs is the need to understand balancing. While this could be handled in a different agreement, sometimes it is contained within the GTA. A gas balancing provision will be the method to confirm that a producer's/shipper's input into the line matches its actual deliveries. Since additional services in agreements like this are almost always charged, the producer/shipper will negotiate paying a fee for the transporter to conduct the balance. The timing of these services is also of critical importance. Calculations can occur anywhere from hourly to monthly. The longer a system is out of balance, the higher the impact on efficient operations and sustained cash flow.

3. - 6. The Gathering Agreement (Oil, Gas and Water) and The Processing Agreement

A Gathering Agreement is a contract that exchanges transportation along small diameter lines to fractionation (technology that breaks the oil, gas and water molecules apart) services for money. The Processing Agreement is its close friend, exchanging those fractionation services for money. They are often lumped together in one agreement, but that will depend on who owns the infrastructure along the value chain. Even if a system has differing ownership, a gathering system operator might still manage it. That operator is compensated for its management services by the individual owners, or as part of the G&P Agreement.

One of the most interesting dynamics of G&P agreements is the varying possibilities regarding contract structure in a greenfield project. Acreage commitments are given by producers to guarantee a revenue stream if the midstream investor builds the necessary infrastructure. An acreage commitment is essentially giving exclusivity of all produced product (sometimes only gas) in a defined area to the benefit of the G&P Agreement. A less onerous form of this clause might name specific wells, or futures wells that are subject to the dedication. In some cases the midstream company may not even immediately own the gathering infrastructure, instead stepping in as owner operator after the producer is done. On the other side of the spectrum, a G&P agreement might be provided by a midstream party who has already taken the construction risk. Agreements with these owners are more similar to GTAs, as the focus is on the fees and services provided.

Closing out the discussion on G&P Agreements, the presence of regulatory risk is very significant. If a line contains gas, the possibility of becoming FERC (the Federal Energy Regulatory Commission) rated (common carrier pricing and access) is less of a concern. The same applies to water. However, if the line contains a mixed product with oil, the concern over becoming rated increases. Oil becomes subject to FERC in many more circumstances and the consequences of agreeing to a dedication and then becoming rated are severe (potential breach of the G&P Agreement, FERC filing costs to gain an exception, or changes to infrastructure design). Early communication between facilities engineers and regulatory experts however should address this speed bump. Systems ultimately should be designed to protect the substantial up front investment.

7. Gas Storage Agreement/Projects

The final step in the midstream value chain is gas storage. A gas storage agreement is an exchange of money for the right to store natural gas in a storage facility (typically a depleted salt dome reservoir or water aquifer) over a period of time. A gas storage operator will also receive money for its provision of gas storage services (balancing, pressure maintenance, etc.). Under a peak shaver model (contracting to meet seasonal demand) natural gas storage may not be underground, but instead stored cryogenically in large tanks. Both business models include similar general terms as the other service type agreements above (tariffs, fees, storage commitments, etc.).

Unique to a gas storage project is that subsurface and real property rights must be acquired in tandem. On the topside, the project will need to acquire property or lease it. Easements will also be required for the storage facility pipes to connect to either the field gathering system or the long distance pipeline. These more complex topside issues will ultimately impact the tariff, as the gas storage owner will want to recover them as part of their CAPEX/OPEX compensation. In the subsurface, the gas storage owner will also need to secure the rights to the reservoir. This is usually done by leasing and a gas storage owner will typically pay substantially less to the land owner than in a typical oil and gas lease. The preference is likely only a bonus amount and if a royalty is necessary it will be a de minimus percentage. The storage company will always have the alternative of eminent domain if they are FERC approved.

Also unique to a gas storage project is the need to make a large initial purchase of gas to partially fill the reservoir. In some cases that purchase will be outright, but the capital investment risks are substantial. For that reason only the highest quality projects will typically embrace this model. For projects with more risk, the gas storage owners may use leasing or producer commitments. The leasing model allows a producer, or even another gas storage company to let the new facility essentially borrow it gas for a fee. The economics to the lessee will depend on the gas market. Leasing stranded gas can be a win-win, providing a commercialization strategy to a field with little value and providing a less expensive source of gas to the storage operator. Finally, if a producer commits gas to the facility to serve as a base, the producer will seek a lower price on storage services to account for the time delay (sometimes permanent) on monetizing its asset.

I referred back to a few articles to confirm my thinking on a few things, if you would like to read them, here are the cites:

"Changes Ahead for Gathering & Potential Effects on Producers," RMMLF special institute presentation, April 24-25, 2018.

"Gathering Your Own Production – Considerations for Producer Gatherers," RMMLF special institute paper, April 24-25, 2018.

"Anatomy of a Commercial Gathering Project," RMMLF special institute paper April 24-25, 2018.

"Gas and LNG Sales and Transportation Agreements: Principles and Practice," Peter Roberts, July 24, 2014. <https://www.amazon.com/Gas-LNG-Sales-Transportation-Agreements/dp/0414034198>. This a great book, I recommend anyone interested in natural contracts buy it.