Curr Sustainable Renewable Energy Rep (2016) 3:23–27

DOI 10.1007/s40518-016-0049-x

MIDSTREAM SECTOR (JD MAKHOLM, SECTION EDITOR)

Importance of Midstream in Oil and Gas Resource Development

Gürcan Gülen 1

Published online: 22 July 2016

# Springer International Publishing AG 2016

Abstract The midstream activities are necessary to bring oil hydrocarbon resources. Downstream typically covers distribution
and natural gas from producing fields to consumers but are typ- and marketing to end-users of petroleum products, natural gas,
ically low-margin businesses. Oil consumption is almost univer- and natural gas liquids (NGLs).1 By deduction, midstream is left
sal; midstream infrastructure may be taken for granted. But, pipe- with all the Bunexciting^ activities that allows resources being
line examples are provided to demonstrate the necessity of mid- produced to reach consumers: gathering of production from wells,
stream to monetize oil resources. The challenge is more acute for treatment of produced volumes for impurities, separation of dif-
gas. Gas consumption is not as pervasive as oil consumption ferent products (oil, natural gas, NGLs) at the field, and transpor-
because it requires expansive networks of pipelines, storage, tation of different products either to refineries2 (in the case of oil)
and customer connections. If there is no heating demand, power or to processing/fractionation facilities (in the case of rich natural
generation and industrial use are the only options to burn gas but gas). Methane (natural gas) transportation via pipelines or in the
they are dependent on existing electricity and industrial infra- form of liquefied natural gas (LNG) is also often considered a
structure and demand. Gas exports have to be via pipelines or midstream activity although the LNG industry has its own supply
in liquefied form, which can be expensive. As a result of these chain: liquefaction, shipping, and regasification. Typically, the
challenges, gas resources have remained stranded in many cases. activities along the LNG chain have to be lined up in a single
Examples of gas export projects and future trends are discussed contractual arrangement between sellers and buyers of LNG to
to underline the need to consider midstream investments when enable financing of the projects. Figure 1 provides a depiction of
evaluating resource potential. oil and gas value chains, albeit in a simplified manner.3

Keywords Midstream . Oil . Natural gas . Pipeline .

Liquefied natural gas Natural Gas

Natural gas resources become stranded for two main reasons:

lack of sufficiently large markets (and infrastructure) near the
Introduction
1
NGLs include ethane, propane, butane, and heavier molecules.
The oil and gas industry consists of a set of technologically ad- 2
Refineries have flexibility to adjust their production yields according to
vanced activities. The supply, or value chain, is often divided into demand for various products and/or their access to different quality
three main segments: upstream, midstream, and downstream. crudes. This market responsiveness might render it possible to include
refining as part of the downstream. Alternatively, given that refining
Upstream covers exploration, development, and production of transforms crude oil into products such as gasoline, diesel, jet fuel, and
others that consumers demand, it might be more reasonable to treat it as a
midstream activity. Crude oil is sometimes used directly for power gen-
This article is part of the Topical Collection on Midstream Sector eration, for example, often in resource-rich countries; but, such direct use
of crude oil reduces the value that can be extracted from a barrel if it were
refined and is increasingly avoided.
* Gürcan Gülen 3
Figure 1 is a modified version of Figure 3 in a report prepared by the
gurcan.gulen@beg.utexas.edu
author for the Energy Information Administration in 2014: Global
Hydrocarbon Model Upstream Module Design Considerations
1
Bureau of Economic Geology’s Center for Energy Economics, (http://www.eia.gov/forecasts/documentation/workshops/pdf/1_
Jackson School of Geosciences, The University of Texas at Austin, Upstream_Component_Design_Model_Report_Gurcan_Gulen_
Austin, TX, USA Bureau__Econ_Geology_Nov_2014.pdf).
24 Curr Sustainable Renewable Energy Rep (2016) 3:23–27

Biofuels and Coal-to-

Products storage Liquids compete with
Oil storage
Lease condensate refined products
Refined Product
Markets
Oil Field Transport
Oil Transport Products Transportaon
Conv. onshore Refining Pipelines
Pipelines Gasoline, Power generaon
Conv. offshore Treatment / Disllaon Tankers
Tankers Diesel, Jet fuel, Industrial sector
Tight Oil separaon Cracking Rail
Rail Kerosene, Fuel (petchem, other)
Oil Sands Coking Barge
Barge Oil, etc. Residenal
Oil Shale
Commercial
District Heang (DH)
GTL products compete
Some products from
Associated gas with refined products
fraconaon
Methane Markets
Power generaon
Gas Field
Gas storage Industrial sector (petchem,
Convenonal onshore Methane Transport
Treatment / Gas processing methanol, ferlizer, other)
Convenonal offshore Pipelines
Separaon / Fraconaon LDC (residenal, commercial,
Tight Gas Liquefacon, LNG shipping DH)
Shale Gas
GTL
Coal Bed Methane
Transportaon (CNG, LNG)
Ethane Transport
Liquids storage
Pipelines
Liquefied shipping NGL Markets
If these NGL streams are necessary to
jusfy upstream gas project, they should Industrial sector (petchem,
be included in the upstream cost. LPG & Plant Condensate Transport other)
Pipelines Residenal
Tankers Commercial
Transportaon

Fig. 1 Simplified oil and gas value chains (upstream, midstream, downstream)

resource and inability (geographical or political) to export. was a case of supply push as much as demand pull. Exports to
Consumption of large amounts of natural gas requires an expan- Argentina represented 80 % of Bolivia’s total gas production.
sive network of different size pipelines transporting gas from When gas discoveries in Argentina decreased the demand for
fields and connecting factories, businesses, and homes to gas Bolivian gas, Bolivia needed an alternative export market. The
supplies, processing facilities, and storage facilities to balance BTB pipeline attracted private investment to the upstream sector
daily and seasonal fluctuations in demand (Fig. 1). In the absence in Bolivia. Between 1997 and 2001, 14 international companies
of sizeable industrial demand and heating demand (e.g., in tem- invested about $2.5 billion in oil and gas upstream activities in
perate climates), the only alternatives to create a market for the Bolivia, which raised proven plus probable gas reserves by
discovered natural gas resources are either power generation or 700 %. The support from the World Bank5 as well as the
exports (often, power generation at the export market is the an- Brazilian government and Petrobras, national oil company of
chor customer). In many countries, electric power systems are Brazil, were crucial for the pipeline project’s development in
inefficient, incomplete, and plagued by subsidies, leaving exports addition to involvement of Shell and Enron.6
as the primary option to monetize stranded natural gas resources. In contrast to the BTB pipeline, the Camisea pipeline project
For example, in landlocked Bolivia with a small internal mar- was the result of supply push. A 300-mile pipeline was needed to
ket for natural gas, large gas resources of the country would not bring natural gas from the Camisea field in Peru’s remote
have been developed in the absence of, first, the pipeline to rainforests, east of the Andes. The Royal Dutch Shell discovered
Argentina that was developed in the 1970s and, then, the the Camisea in the early 1980s, with estimated reserves of about
Bolivia-to-Brazil (BTB) pipeline that was developed in the late
1990s. The main market for the gas in Brazil was power gener-
5
ation that was expected to grow significantly as Brazil tried to The World Bank also supported the pipeline from Bolivia to Argentina
in the 1970s. Historically, the World Bank has supported large capital-
diversify away from hydroelectricity.4 But, this pipeline project intensive infrastructure projects in energy and other sectors by mitigating
political risks, which helped to mobilize private sector financing
(http://www.worldbank.org/en/programs/global-Infrastructure-facility).
4 6
Brazil’s 2001 electricity sector crisis that laid the foundation for the For details on commercial arrangements and political context of the
policy of promoting gas-fired generation and supported the development BTB pipeline, see the CEE case studies: http://www.beg.utexas.
of the BTB pipeline is discussed in the Center for Energy Economics edu/energyecon/new-era/case_studies/Bolivia_to_Brazil_Pipeline.pdf
(CEE) case study: http://www.beg.utexas.edu/energyecon/new-era/case_ and http://www.beg.utexas.edu/energyecon/new-era/case_studies/Gas_
studies/Brazil_Power_Market_Crisis.pdf. Monetization_in_Bolivia.pdf.
Curr Sustainable Renewable Energy Rep (2016) 3:23–27 25

15 trillion cubic feet (tcf) of gas in multiple blocks. Shell and monetize its rich gas resources, including a Trans-Caspian pipe-
Mobil formed a consortium to develop the resources; but, the line. Although this pipeline made economic sense (e.g., [8]), it
consortium withdrew in July 1998 owing to poor economics never materialized11 partially because legal and regulatory frame-
and financing difficulties. Again, domestic gas demand was not works were not transparent and geopolitics were complicated
sufficient to justify the investment in the upstream and pipeline. In (e.g., see [4]). However, China, driven by its desire to diversify
September 1999, Peru passed the Law for the Promotion and its energy sources in terms of both fuel variety and supply region,
Development of the Natural Gas Industry and associated regula- financed a long-distance pipeline from Turkmenistan via
tions to facilitate Camisea’s development. The regulations guar- Uzbekistan and Kazakhstan.12
anteed pipelines Ba real annual profitability of 12 %,^ and end- The West African Gas Pipeline (WAGP) was, in addition to
user prices were set to encourage consumption by different types LNG projects, one of the outcomes of Nigeria’s efforts to re-
of end-users. In addition, the Peruvian government encouraged duce flaring of natural gas produced in association with crude
investment in distribution networks in Lima and elsewhere to oil in country’s prolific offshore fields. It was also a sign of
increase gas consumption in the country, including natural gas regional cooperation as the pipeline was designed to deliver
vehicles and small consumers, and created incentives for gas- natural gas to Nigeria’s neighbors Ghana, Benin, and Togo.
fired generation. These incentives, however, distorted the electric- Essandoh-Yeddu et al. [1] demonstrate the economic competi-
ity sector; were challenged by coal and hydro generators; and tiveness of the WAGP gas in Ghana. Although the pipeline was
were not fully successful.7 Given these challenges, a new lique- built, it has been operating at very low capacity utilization ow-
faction facility (Peru LNG) to export was also needed to finally ing to numerous reasons, including interruptions in upstream
justify the upstream and pipeline investments. and transport operations in Nigeria, unresolved gas supply and
The Peru LNG project is one of the many LNG projects pricing policies within Nigeria’s own natural gas market, and
that were developed to monetize stranded assets, including the the supply of associated gas from the Jubilee field in Ghana.
projects in Trinidad and Tobago,8 Qatar, Australia, Nigeria,
and Angola. It is difficult to imagine that recently discovered
offshore natural gas resources in Tanzania and Mozambique
will be developed unless LNG projects are attached to them. Upstream Cost Implications for Gas Resource
Similarly, the multitude of liquefaction facilities proposed for Development
British Columbia are motivated to monetize the shale gas
resources in Montney and Horn River, hundreds of miles in- Given the discussion above, it would make sense to include
land from the proposed LNG terminals, which would neces- the cost of midstream assets such as pipeline and liquefaction
sitate expensive long-distance pipelines to deliver the gas to as part of the resource development cost in a high-level anal-
the LNG terminals. Offshore or shale resource development ysis. Also, the cost of gas processing and fractionation, if
are relatively expensive; the need to invest in long-distance necessary, to extract valuable natural gas liquids should also
pipelines under water or over challenging terrain in remote be considered as part of the cost of monetizing stranded gas
areas and liquefaction facilities renders the monetization of resources. This way, the producers can be credited with the
such gas resources an expensive proposition.9 value of wet gas resources properly. For instance, drilling in
There are other examples of both successful and failed pro- the Barnett shale play in North Texas continued after the col-
jects.10 For years after the break-up of the Soviet Union, the lapse of natural gas prices as many operators switched to wet
landlocked Turkmenistan explored alternative export routes to parts of the play (assuming that they had access to that acre-
age) to take advantage of the additional revenues associated
with the NGLs. The world’s largest LNG exporter, Qatar,
7
For a more detailed discussion of the power sector reforms in Peru generates large revenues from NGLs, which allows methane
implemented to support Camisea development and resulting conflicts, to be a cheap feedstock for its LNG facilities as well as the
see the CEE case study: http://www.beg.utexas.edu/energyecon/new- world’s largest gas-to-liquids (GTL) facility. Trinidad and
era/case_studies/Gas_and_Power_in_Peru.pdf.
8
See CEE case study on Trinidad LNG Project: http://www.beg.utexas. Tobago was able to develop petrochemicals capability along
edu/energyecon/new-era/case_studies/Trinidad_LNG_Project.pdf.
9
The Gorgon LNG project off the northwest coast of Australia offers a
11
good example. The facility finally came online after major cost overruns The CEE case study on the Trans-Caspian Gas Pipeline provides a
and delays but during a low-price environment (http://www.bloomberg. discussion of the project and reasons for the project’s stalling
com/news/articles/2016-01-20/chevron-s-costly-lng-project-to-start-in- (http://www.beg.utexas.edu/energyecon/new-era/case_studies/Trans-
shadow-of-oil-collapse). Caspian_Gas_Pipeline.pdf). More details can be found in Foss et al. [5].
10 12
The success or failure of a project refers solely to whether the necessary The history of the project is provided in detail at China National
midstream investment to connect the resource to demand was made or Petroleum Corporation (CNPC) web site: . The importance of this pipe-
not. In this article, we are not concerned about the commercial viability of line for both China and Turkmenistan can be gleaned from a recent news
the midstream project nor those of the associated upstream or downstream article: http://www.naturalgaseurope.com/turkmenistan-supplied-125-
investments. bcm-gas-to-china-25610.
26 Curr Sustainable Renewable Energy Rep (2016) 3:23–27

with the LNG export capacity. Such a holistic look would Conoco undertook significant oil exploration in Chad in the
allow analysts to evaluate the pace and regional distribution 1970s, leading to discoveries that led to the creation of a multi-
of resource development more insightfully. Clearly, projects national consortium comprising of Conoco, Shell, Exxon, and
along the supply chain will be prioritized and financed accord- Chevron. In the early 1980s, civil war halted upstream activities.
ing to involved parties’ goals and capabilities. In 1988, a new exploration, production, and transportation per-
Note, however, mature and liquid natural gas markets such mit was issued; but Conoco withdrew from the project, and
as that of the USA are different. In these markets, basis differ- Exxon took the lead. The Bolobo field with estimated 135 mil-
entials inform the producers regarding bottlenecks and mid- lion barrels of reserves was discovered in 1989. The best option
stream investment needs. Producers can either be satisfied to monetize the oil resources was deemed to be the construction
with discounted wellhead prices if their assets are behind bot- of a 1070-km underground pipeline across Cameroon to a ma-
tlenecks or decide to invest in those midstream assets them- rine shipping terminal, estimated to cost $2–3 billion at the time.
selves if the higher netback pricing allows them fast recovery In February 1996, Chad and Cameroon signed a bilateral treaty
of that investment. We have seen examples of this during the to govern the pipeline’s construction and operations. In
recent shale gas revolution in the USA. In these markets, up- September 1997, the consortium and the governments reached
stream operators, midstream and downstream companies, and an agreement as well. Low oil prices and intense environmental
consumers react to prices and build necessary infrastructure and political controversy surrounding the project led to shuffling
under different arrangement that can change over time in re- of consortium members in the late 1990s. The financing and
sponse to market conditions.13 ownership structures were complex. Governments of both
Chad and Cameroon became joint venture partners in two
special-purpose companies created for segments of the pipeline
in each country. In addition to equity from consortium partners,
Crude Oil which was primarily used for the upstream development, project
financing was pursued for the export pipeline and associated
One of the reasons for the Trans-Caspian gas pipeline project marine terminal. The involvement of the World Bank was cata-
to not materialize was complex geopolitics. It is worth noting lytic: in addition to direct loans from the Bank, the International
that the same complex geopolitics of the region did not stop Finance Corporation (IFC) provided a loan that mobilized com-
the development of the Baku-to-Ceyhan oil pipeline via mercial lending.14
Georgia and Turkey or the Caspian Pipeline Consortium
(CPC) pipeline from the Tengiz field in Kazakhstan to
Russia’s Black Sea Port of Novorossiysk (e.g., see [7]). Conclusions and Future Trends
Certainly, many reasons for success or failure are unique to
each project. Still, there are a few fundamental differences The natural gas is becoming more globalized with the
between oil and gas that has traditionally rendered oil more increasing LNG trade. In the early 1990s, Indonesia,
valuable than gas. First, crude oil is liquid, which is easier to Malaysia, and Algeria accounted for 70 % of the LNG
transport than natural gas; second, the oil supply chain is more supply as compared to 17 countries with exports in 2015.
mature with well-developed global networks of refining, ship- Qatar, which did not start exporting until 1997, is the
ping, storing, and distributing crude oil and refined products; leading exporter with almost 32 % of the market. New
and finally, consumption of oil and refined products is ubiq- supplies from existing exporters such as Australia and
uitous. Given these advantages, the oil producers have not had new exporters from East Africa, Eastern Mediterranean,
the stranded resource problem as severely as the natural gas and North America will continue to change the make-up
producers in recent history, but there are still examples such as of the exporters club in the next decade and beyond
the Baku-Ceyhan and CPC pipelines, without which abundant although they are causing the liquefaction capacity to
oil resources of Azerbaijan and Kazakhstan would remain increase much faster than demand in the short-term.15
under-developed. Another distinctly instructive example is Similarly, there were a handful of major importers in the
the Chad-Cameroon pipeline. Without this pipeline, signifi- early 1990s with Japan dominating the market. Today, there
cant resources in landlocked Chad would not have been mon- are at least 33 countries that imported some amount of LNG in
etized because there is relatively small demand for oil and 2015, including via floating storage and regasification units
limited refining capacity in Chad and neighboring countries. (FSRUs), according to IGU [6]. The number of importing
Even fundamental infrastructure such as roads have been lack-
14
ing in the region. Project financing and the role of the World Bank is discussed in further
d e t a i l i n t h e C E E c a s e s t u d y : h t t p : / / w w w. b e g . u t e x a s .
edu/energyecon/new-era/case_studies/Chad_Cameroon_Pipeline.pdf.
13 15
See Foss [2] for an insightful discussion of the North American natural Foss and Gülen [3] offer as assessment of US LNG exports’ compet-
gas market. itiveness under current market conditions.
Curr Sustainable Renewable Energy Rep (2016) 3:23–27 27

countries is likely to increase in the future. FSRUs accounted Compliance With Ethics Standards
for about 10 % of the total market in 2015 but are expected to
Conflict of Interest Gürcan Gülen declare that he has no conflict of
increase in importance, given their lower initial capital cost interest
and flexibility to move from one location to another.
Historically, the LNG supply chain has been financed
Human and Animal Rights and Informed Consent This article does
as a whole with almost all of the capacity tied via long- not contain any studies with human or animal subjects performed by any
term contracts, pricing LNG indexed to oil. A short- of the authors.
term market has been emerging and accounted for
20 % of the total market before the Fukushima accident,
after which the short-term market’s share increased to
about 28 %. Given the current supply and demand con- References
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