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Pipeline constraints could add to natural gas price volatility, weaken future earnings and give pause to producers considering IPOs this year.CHAD HIPOLITO/The Globe and Mail

A bright spot in Canada's troubled energy sector is being hit hard by regional pipeline outages.

Natural gas producers in northwestern Alberta and northeastern British Columbia are benefiting from dramatic leaps in the productivity of their wells – just as North American natural gas prices are expected to rise this year.

But a shadow hanging over Western Canadian producers is pipeline constraints – which could add to natural gas price volatility, weaken future earnings and give pause to those considering IPOs this year. Continuing refurbishments on a key portion of TransCanada Corp.'s NGTL pipeline system, which gathers about three-quarters of the natural gas volumes produced in Western Canada, means the situation will continue, and could worsen this year.

"The problem is, you can't get around it," said Dan Tsubouchi of private equity group Stream Asset Financial Management LP. "This is going to screw up some solid results."

TransCanada said it has seen a 40-per-cent increase in the amount of natural gas moved in the key Upstream James River operational area of the NGTL system in the past five years. Mr. Tsubouchi said the problem stems from well results in the Montney and Deep Basin regions that are improving at a faster rate than anyone expected, even the producers themselves – and more quickly than pipeline infrastructure building can keep up.

Increasing U.S. supplies of natural gas into traditional markets for Western Canadian natural gas have forced North American natural gas prices lower to penetrate key markets, Mr. Tsubouchi said.

He said that and other factors have put downward pressure on the main Canadian benchmark price, AECO, and the outages on TransCanada's NGTL system amplify the situation.

Continuing pipeline interruptions and a lack of clarity about future pipeline capacity expansion makes it hard to see how several IPOs for natural gas producers go ahead this spring, he added.

Even companies who don't rely on the NGTL system are concerned.

"When these things do happen, gas gets crowded into the other systems," said Dale Shwed, chief executive of Crew Energy Inc., whose Montney-focused company largely relies on the competing Alliance pipeline system for natural gas shipping.

"Spot prices will come down."

The issue is part of an continuing shift in the geography of Western Canada's 15 billion cubic feet a day of natural gas production, says Gary Leach, president of the Explorers and Producers Association of Canada. Increasing production is focused in Montney, while production in some other areas is declining. The newer crop of producers have leveraged prolific resources, multistage fracking and other technologies along with cost cutting to continue drilling, even while natural gas prices languished in 2015 and 2016.

Uncertainty for producers is compounded by the fact that liquefied natural gas megaprojects on the West Coast are far from a certainty, and years away in the most optimistic scenarios. Long-term contract agreements for transport to a key Southern Ontario hub, Dawn, on TransCanada's Mainline remain caught in negotiation between the pipeline company and shippers.

Producers have been grappling with outages and shipping limitations on parts of TransCanada's regional NGTL system for the past two years.

"Drilling activity has increased significantly in northwest Alberta and northeast B.C. over the past few years," TransCanada spokesman Shawn Howard said. "There is currently not enough pipeline capacity in this region to transport all of it."

The Calgary-based pipeline company says it is scrambling to build new capacity to keep up with the well rates in this area. But it is predicting this maintenance work will require pipeline outages this year, including a whopping 20-per-cent drop in capacity for a period in the Upstream James River area of the NGTL system in August. Periods of maintenance will occur throughout the year, and might affect both interruptible or firm capacity, Mr. Howard said.

Some producers are adapting by buying more firm capacity than they need. Darren Gee, chief executive of Peyto Exploration & Development Corp., likens the pipeline problem – and his workaround – to air-travel headaches.

"It's kind of like Air Canada selling 300 tickets for a plane that only holds 200 people, which they often do," he said to an audience of investors last month.

"The only way you're guaranteed to get into the plane: Either you've got Elite status – so you're somewhere along that system where you're guaranteed to get in – or you hold two tickets."

The mid-sized producer's solution is to carry "two tickets," in the form of 20 per cent to 30 per cent in excess firm capacity on the NGTL pipeline system. That means when there's an outage on part of the pipeline system, Peyto is still able to transport 100 per cent of its produced volume.

Mr. Tsubouchi notes that lucrative liquids, especially condensate, that come with production in the Montney drives many of today's big returns for gas producers.

"Montney players can afford to bid for lower natural gas prices and still make attractive returns. They want higher gas prices, but don't need them to make good returns on the liquids rich plays," he added.

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Tickers mentioned in this story

Study and track financial data on any traded entity: click to open the full quote page. Data updated as of 28/03/24 2:04pm EDT.

SymbolName% changeLast
TRP-T
TC Energy Corp
+1.04%54.36
PEY-T
Peyto Exploration and Dvlpmnt Corp
+0.34%14.96
CR-T
Crew Energy Inc
+0.86%4.69

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