A RECENT satellite image of the United States at night reveals a striking patchwork of lights from the country's towns and cities. These appear in stark contrast with the darkness of the Great Lakes, the surrounding oceans and much of the Great Western Plains.
Yet where sparsely populated areas of North Dakota should be dark, here there is a mysterious concentration of lights and activity comparable with any of the country's larger metropolises.
This isn't a new city, but the light from vast shale oil and gas fields and their neighbouring settlements that have emerged in just the past few years, reflecting a new phenomenon in domestic American energy production.
The Bakken region, which covers 518,000km²across far eastern Montana, most of North Dakota and the southern tip of Saskatchewan, Canada, and the largely unexplored Three Forks region, which stretches into South Dakota, are estimated to have combined reserves of over 7.4 billion barrels of shale oil according to the US Geological Survey (USGS).
The region sits within the resource-rich Williston Basin, and since drilling started in 2008, North Dakota has become the second largest oil producing state in the United States; it surpassed Alaska last year and now sits behind only Texas which is going through its own shale oil boom. The North Dakota Department of Mineral Resources says that extraction has more than doubled since 2011 in the Bakken region to around 750,000 barrels of oil per day (bopd) through the use of hydraulic fracturing, or "fracking."
This involves injecting water, sand and chemicals into bedrock formation deep below the ground to increase or create rock fractures, which on petroleum-bearing rock formations will release oil and/or gas to the surface well. Recent technological advances have improved the economics of this process prompting the rush to extract the Bakken's wealth.
However, moving the oil to market is difficult. Pipelines, the traditional method of transporting oil long distances to refineries, are not currently up to the capacity required. They are also expensive and problematic to build.
For example, the $US 5.3bn, 830,000bopd Keystone XL project, which proposes transporting 100,000bopd of Bakken crude along with Canadian tar sands oil from Montana through South Dakota and Nebraska to join the existing 3462km Keystone Pipeline, which runs from Canada to the Gulf, at Steele City, Nebraska, is facing fierce opposition from environmentalists. This has led politicians to debate the merits of the project and the US State Department to delay approving it.
Other projects, such as the $US 2.5bn Sandpiper pipeline, which will have capacity for 225,000-375,000bopd when it opens in 2015, have not faced this environmental scrutiny, and are moving ahead. But they are at the mercy of landowners in the region who demand high premiums to build on their land, the harsh winter weather which delays construction, and a year-long permit application process.
The energy market research firm IIR Energy estimates that $US 10bn will be spent on pipelines this year, yet the North Dakota Pipeline Authority (NDPA) predicts that crude oil production will exceed pipeline capacity in the region until at least 2015, with current pipelines around 300,000bopd short of capacity.
This lack of capacity has led to pipeline bottlenecks and an abundance of oil at the mid-continent meeting point in Cushing, Oklahoma. The price of Bakken crude has consequently fallen in comparison with that sourced from other parts of North America.
As a result oil companies have turned to rail as a way of both meeting demand and getting a better price for their product. Despite the $US 10-15 cost of shipping a single barrel by rail compared with $US 5 by pipeline, rail's flexibility provides oil companies with a greater choice of potential customers.
Coastal refineries can pay a premium of up to a $US 30 on a single barrel of Bakken crude oil shipped by rail which is still cheaper than imported oil, and oil companies have moved quickly to meet this demand. In summer 2012 Tesoro began shipping 30,000bopd to a refinery at Anacortes, Washington, while Delta Airlines began receiving shipments of Bakken crude at a refinery in Philadelphia in February. Other refineries and ports in California, Oregon, Washington, Texas, New York, Pennsylvania, and Louisiana, which are difficult to reach by pipeline, are already being served, or will be soon.
Class 1s
The increase in importance of oil shipments to the Class 1 railways is reflected in quarterly volumes from the past few years.
The seven Class 1s transported around 10,000 carloads of crude oil in each quarter of 2010, but this has ballooned since to around 27,000 by the end of 2011, over 50,000 by the middle of 2012, and 97,000 in the first quarter of 2013, a 166% increase year-on-year. CN says it is committed to doubling its crude oil volumes in 2013 following a 19% increase in volumes and 13% in revenues during the final quarter of 2012, while Kansas City Southern reported a quadrupling of its crude volumes during the same period. Union Pacific (UP) carried 25,000 carloads in 2011, 140,000 in 2012, and volumes increased by 107% in the first quarter of 2013 year-on-year. UP also recently announced that it is teaming up with CP to transport Canadian crude to California.
NDPA estimates that rail carried 60% of oil exports from the Williston Basin in 2012, up from 6% in 2010. This increased to 84% in May 2013, although fell back to 70% in June, according to energy intelligence group Genscape, following an increase in prices at Cushing. The impact of July's Lac-Mégantic derailment and explosion which killed 47 people has raised questions about the long-term viability of transporting crude oil by rail. However, analysts expect crude by rail to maintain its strong growth.
Confidence in the long-term is similarly reflected in infrastructure investments. BNSF is the most prominent railway in the Bakken region, currently operating seven to eight trains per day which are carrying around 650,000bopd. CEO Mr Matt Rose recently told IRJ's sister publication Railway Age that he expects this to increase to 750,000bopd by the end of the year, while other reports have suggested that the railway could transport up to 1 million bopd at some point in 2014, serving approximately 50 locations by the end of next year.
BNSF says it will invest $US 220m of its record $US 4.4bn 2013 capital expenditure programme on improving track capacity in North Dakota. The railway will add additional passing loops and improve the quality of infrastructure by replacing 507km of rail and 415,000 sleepers as well as signalling upgrades for PTC. BNSF is also investing $US 115m on its lines in Montana this year, and these allocations follow a $US 196m investment on infrastructure in Montana and North Dakota in 2012.
"We are allocating a significant amount of capital to our east-west Northern Corridor to handle the increased traffic," Rose says. "This year we plan to spend about $US 200m on crude by rail-related infrastructure, and we will invest significantly more next year. We believe we will get our investment back."
BNSF's capacity improvements will help to better serve pipeline operators and shortlines which have built 12 terminals adjacent to BNSF and CP railway infrastructure in northwest North Dakota in the past two years alone, taking the total to 16 (see map). These are handling crude delivered by truck or pipelines, and according to the NDPA, terminal capacity has increased to 730,000bopd since they were built.
One of the larger terminals is Bakken Oil Express (BOE), which is owned by Kansas-based Lario Logistics and began shipping oil from its 121.4 hectare site west of Dickinson, North Dakota, in November 2011.
Initially the facility had capacity for 100,000bopd using four 2.4km loops, but now handles 200,000bopd. Further expansion projects are underway, including adding a perimeter loop, which will eventually increase capacity to 500,000bopd.
The facility's main customer is Eighty-Eight Oil, which delivers oil using its Belle Fourche pipeline, while other customers use trucks to transport oil from across Stark County. Other major terminals include Enbridge's expanded hub at Berthold, which has capacity for 80,000bopd, and the Colt Hub in Epping, which like BOE is an open-access facility and can handle 120,000bopd.
These oil terminals are not the only ones to have sprung up to serve the Bakken. Railways are also benefitting from demand for products to aid the fracking process, particularly sand, which is used to prop open fissures in shale formations to allow oil and natural gas to flow.
The Association of American Railroads (AAR) reports that sand shipments on US railways have increased from 112,000 carloads in 2009 to 293,000 carloads in 2012, and 87,000 in the first quarter of 2013. Wisconsin is the epicentre of these developments with over 100 mines now active or planned, with a railway infrastructure connection deemed essential for their success amidst such strong competition.
Among the contracts secured by CP in the past two years are agreements to transport sand from new processing facilities in Tunnel City, Oakdale and Sparta, Wisconsin, which will be sent to new facilities in the Bakken at Makoti and New Town. CN is also handling more frac sand shipments in Wisconsin, and is improving infrastructure to boost delivery to fracking areas in the Western Canadian Sedimentary Basin.
This includes a $C 33m ($US 32.4m) upgrade of the 119km line between Wisconsin Rapids and Blair and a $C 35m project to improve 64km of track between Ladysmith and Poskin. This project was announced in 2012 as part of an agreement with Superior Silica Sands to transport frac sand from its Poskin facility to various shale areas.
UP is similarly offering a "Sand 2 Shale" service which can transport shipments ranging from a single wagon to 100-wagon plus trains from terminals in the Northern White Sand mines in the Upper Midwest to the Permian and Eagle Ford Shales in Texas. The railway reported a 265% increase in frac sand shipments between 2010 and 2012 and has upgraded infrastructure to meet this demand, including rebuilding junctions in Wisconsin, increasing capacity at yards on the Mankato line in Minnesota and other yard upgrades in Wisconsin and Iowa.
Future growth
While the increase in oil and chemical shipments, epitomised by developments in the Bakken, have partly offset coal shortfalls (see panel), coal's expected recovery will not kill this market growth. On the contrary, current domestic production meets about half of the United States' need for oil. And with the United States aiming to rely less on imports from Venezuela, Saudi Arabia, Russia and Africa as it looks to secure North American energy independence by 2017 or 2018, and become the world's largest oil producer in the process, more and more areas are opening up to potential shale oil extraction.
Indeed there are more than a dozen shales and basins in nine states west of the Mississippi where oil is already being extracted or is waiting to be found, all of which are or could boost traffic for US railways. Texas in particular offers substantial future opportunities.
Major investment has already taken place in rail infrastructure around San Antonio to support developments in the Eagle Ford shale in the past few years, which now has more than 230 drilling operations.
Shortline operator Watco increased trackage at its East Kelly Railport from 4.3km to 12.9km, while Gardendale Railroad has increased track length at its facility from 19.3km to 40.2km. In addition, BNSF and US Silica Holdings opened a 113.3 hectare frac sand facility in Von Ormy in June, and Frac Resources and Frontier Logistics are planning to open the Mission Rail Park, a 404.7 hectare site which will become a centre for oil field service companies.
Hondo Railway is also benefitting from the Eagle Ford boom and has gone through a major transformation since it moved to a new 70.2 hectare site adjacent to BNSF and UP infrastructure close to Hondo, Texas in 2007. From 4km of track and 1800 wagons of traffic at its start up, the railway now has 25.9km of track and is expecting to handle around 10,000 wagons of petroleum, frac sand, ethanol and agriculture products, and food grade sweetener this year. Five subsidiary companies operate loading and unloading facilities on the site, plus one independent, Baker Hughes.
"When we moved our business in 2007 I developed a masterplan of what the yard would look like in 20-25 years, but the growth has been so fast that we have already surpassed that," says Mr Miles Lee, Hondo Railway's chief operating officer. "Basically in the six years since we moved we have not stopped laying track. We are not a typical railroad which might use existing infrastructure. Every single piece of rail that we are using we have put down in the last few years."
In addition to Eagle Ford, BNSF, UP as well as KCS, are increasing traffic in and around the Permian Basin. This includes the largely unexplored Cline Shale which is estimated to have as much as 30 billion barrels of recoverable oil, far exceeding even the Bakken.
The three Class 1s are also active in Colorado's Denver-Julesburg Basin, and the Niobhara Shale in Colorado and Wyoming, which is projected to boost production to 235,000bopd by the end of 2013. BNSF is similarly present in Oklahoma and Texas' Anadarko Basin, which is in close proximity to Cushing, while railways are active in the Barnett Shale in Texas, the state's largest oil field. Elsewhere, the Mancos Shale in Colorado, New Mexico and Utah, and the Monterrey Shale in California, while not active yet, are also projected to become significant producers and could conceivably be served by rail.
While it is unlikely that the speed of developments in these regions will match the rush to the Bakken, they do offer substantial opportunities for railfreight growth. Of course the question of pipelines superseding rail transport remains.
Rose says the market will remain dynamic in terms of the mix and he admits "there is no 15-20 year certainty." Safety considerations have also intensified following the Lac-Mégantic accident. But the length of time it takes to approve and implement pipeline projects is favourable for railways which already have the infrastructure in place and the capability to ship oil to any location in the country.
Certainly Class 1s would have been encouraged by recent news that Kinder Morgan shelved a $US 2bn pipeline plan in Texas because refiners are choosing to move crude by rail due to its greater flexibility.
And with oil companies now readily investing in railway infrastructure - Valero is one of the latest to announce that it hopes to have a fleet of 12,000 wagons by 2015 and is spending $US 30m on rail infrastructure to take crude to its Benicia, California, refinery - the signs are that the western US shale rail boom will last a little longer yet.
Will Lac-Mégantic spell the end for crude by rail?
THE Lac-Mégantic disaster on July 5 has placed safety concerns surrounding the transport of crude oil by rail firmly into the spotlight.
Railway Age contributing editor, and president of Railroad Financial Corp, Mr Tony Kruglinski says that even before the derailment, tank car safety was in the sights of regulatory authorities in both Canada and the United States and industry was expecting some of the regular safety tightening that it experiences each year.
However, he does not believe the transport of oil by rail in North America is under threat.
For one, he says many of the current oil shippers have been moving far more dangerous commodities by rail for decades and they have done this because it is one of the safest ways to move hazardous liquids in bulk across long distances. Rail's flexibility and nationwide reach also means it is likely to remain important to oil shippers.
In addition, tank car safety has been and remains a big issue. Every new tank car built since late 2011 has been constructed to stringent new safety standards. It has not yet been clarified whether the tank cars involved in the derailment were of an older design. However, the circumstances of the accident appear to rule this out as a contributing factor.
"It is not difficult to predict that the industry (voluntarily or otherwise) will increase its efforts to ensure it is running safely in all respects," Kruglinski says. "I also think there will be a full and frank discussion about additional safety enhancements in new car design as well as to existing tank cars.
"However, during this discussion I am sure that one or more experts will point out that a train of five locomotives trailing more than 70 fully loaded tank cars was travelling downhill at over 110km/h when the accident occurred. I am not a structural engineer, but I seriously doubt that at those speeds even the best engineered and manufactured tank cars would have survived uniformly intact.
"So, it is my prediction that crude by rail will continue to grow after significant industry and regulatory introspection. But like most things after a major accident, it will be more involved and more expensive."
Oil revenues offset fall in Class 1 coal volumes
The western fracking boom may appear to have been all good news for the Class 1s, but it has come at a time when volumes of coal, a traditional mainstay of the continent's major railways, have fallen through the floor, with around 300,000 fewer carloadings in 2012.
The fall in coal shipments is partly linked to the abundance of domestically-produced natural gas, another product of the fracking process, in the US market. This has resulted in a dramatic fall in prices from a high of $US 13 per million British Thermal Units (mBTU) in summer 2008, to a low of just below $US 2 in April 2011 and $US 3.29 in August 2013. As a result many American power plants have switched their primary fuel from coal to natural gas as the United States looks set to overtake Russia as the world's largest gas producer.
This is a trend that has hurt all of the Class 1s, but has been partly offset by success elsewhere. While BNSF reported a 6% drop in coal volumes, which accounts for 22.5% of its business, in 2012, increased revenues from consumer and industrial products helped the railway to report an overall net income of $US 3.37bn, up from $US 2.97bn in 2011. "Crude by rail is backfilling 50% of our coal losses," Rose says. "We have never seen a business that has grown so fast."
CSX similarly reported a 19% drop in coal volumes in the fourth quarter of 2012 year-on-year, and an 18% fall in coal revenues to $US 717m, but despite improved intermodal, automotive and chemical traffic, the railway reported a 3% fall in net earnings during the quarter to $US 443m after revenue fell 2% to $US 2.88bn. Annual earnings increased by 2% to $US 1.86bn as revenues remained flat at $US 11.8bn.
Norfolk Southern (NS) also experienced difficulties with coal volumes. Coal comprises 25% of its revenue traffic, and after coal volumes fell by 13%, and coal revenues by 17% to $US 2.9bn in 2012, overall profits fell from $US 1.9bn to $US 1.7bn as revenues dipped by 1% to $US 11bn in 2012 despite intermodal, chemical, auto and housing volume gains.
Coal shipped by NS and CSX from the Illinois River Basin can compete at $US 3.50 per mBTU, but Appalachian coal competes only at around $US 4.50 per mBTU. NS and CSX have consequently looked to boost export coal volumes and use of their network to make up for a shortfall in domestic demand as well as continuing on cost-cutting strategies. CSX is also expecting to increase west-east oil traffic in 2013.
NS chief executive Mr Wick Moorman recently told The Financial Times that his railway has cut its prices for handling export coal to stoke demand. NS subsequently reported a 21% increase in coal export volumes in the first quarter of 2013 which slowed the overall decline in coal traffic to 4.4%. Yet revenues for coal still fell by 17% to $US 635m.
"It's still a good business," Moorman says. "But the rates are down 25-30%."
In the longer term, NS and CSX hope that the market has already bottomed out and that rising gas prices and a reduction in large coal stockpiles at power stations will result in a turnaround. BNSF reported a 7% increase in volumes during the quarter and a 1% increase in the first six months compared with the same period in 2012. UP similarly reported a 12% increase in coal volumes in the second quarter year-on-year.
