kets to restrict capacity. The problem, of course, is not simply the pipeline concentration in each market-given the scale economies in (Continued) area's crude supply comes from the Southwest and Rocky Mountain producing areas. The pipelines serving this area are: The Amoco Pipeline System from the Southwest and Wyoming consisting of an 8", 2-12" and a 20" line and owned 100 percent by Standard Oil (Indiana). The Arco Pipeline from the Southwest and Wyoming consists of a 22" line and is owned 71.38 percent by Arco and 28.62 percent by Union Oil. The Texas-Cities Service Pipeline from the Southwest consists of 2 12" lines and is owned 50 percent by Texaco and 50 percent by Cities Service. The Platte Pipe Line from Wyoming is a 20" line and is owned 25 percent by Marathon, 25 percent by Arco, 20 percent by Continental Of Co., 15 percent by Gulf and 15 percent by Union Oil. The Shell Pipeline from the Southwest is a 10" line and is owned 100 percent by Shell. The Ozark Pipeline from the Southwest is a 22" line and is owned 55.72 percent by Shell and 44.28 percent by Texaco. The Mobil Pipeline from the Southwest and Louisiana is a 20" line and is owned 100 percent by Mobil Oil. The Capline system from the Louisiana coast is a 40" line and is owned 21.93 percent by Ashland, 19.52 percent by Southcap (50 percent Clark and 50 percent Union Oil), 15.09 percent Texaco, 15.69 percent Marathon, 12.07 percent Shell, 7.65 percent Midvalley Pipeline (50 percent Sun, 50 percent Sohio) and 8.05 percent Standard Oil (Indiana). Finally, the Lakehead pipeline from Canada extends into Chicago with a 34" line controlled by Exxon through Imperial Oil. Thus a total of 13 lines in 9 systems supply crude to the areas' refineries. If we restrict ourselves to the consideration of the large diameter lines which might be able to increase throughout substantially without large cost increases, there are 7 pipeline systems of 20" or greater diameter which would seem to offer some potential for competitive behavior. The structure of ownership of these pipelines, however, reduces the prospects for competition rather substantially. While the Lakehead line through Chicago was controlled by Exxon which had little interest in restricting imports into the area, the line was constrained by a secret agreement with the U.S. government from selling crude to Chicago refiners until 1970. [See excerpt from Oil and Gas Journal at p. 69.] Then, in 1970 Canadian crude became subject to import controls and since then the Canadian government has reversed its policy of favoring oil exports and they are being phased out. In addition, the Amoco, Arco, Ozark and Mobil pipelines are owned by 6 of the largest refiners in the area and the owners of the Arco pipeline own 40 percent of the Platte line while the owners of the Ozark, Amoco and Arco lines own 45.17 percent of Capline. The significance of these figures depends on the percentage approval required for the pipeline to issue debt. While pipelines have not revealed this information, the corresponding proposed rates for Loop and Seadock were 70 percent and 75 percent approval respectively. [U.S. Attorney General, Antitrust Advice of the Application of Loop, Inc. and Seadock, Inc. for Licenses to Construct, Own and Operate Deepwater Ports in the Louisiana & Texas Coastal Areas, Respectively, of the Gulf of Mexico 98-99, filed Nov. 5, 1976.] If the critical rate is in the same range for these pipelines, the owners of the Ozark, Amoco, Mobil and Arco pipelines are in a position to block future line expansions. While the establishment of Capline is probably due to the fact that many of the large refiners in the area did not have ownership positions in existing pipelines, this situation was rectified by the creation of Capline. As of January 1, 1976, 78 percent of all refiner capacity in the Illinois-Indiana areas was owned by Capline owners while another 17 percent was controlled by Arco and Mobil who own large diameter systems in the area. Hence, the prospects for competitive construction seem slight while there may be little incentive for competitive expansion behavior. If the discussion is broadened to include consideration of crude lines into the entire North Central refinery market, only two additional pipelines are involved. These are the Midvalley pipeline (50 percent Sohio, 50 percent Sun) a 22" line from Louisiana and East Texas to Lima and another spur of the Lakehead line. Even in this broadened region the owners of Capline, Arco and Mobil pipelines own 90 percent of the area's refinery capacity. Thus, despite the seeming large numbers of pipelines into the area, there is a substantial potential for oligopolistic behavior unless the rules regarding pipeline expansions are quite favorable. In any case, oligopolistic behavior was quite likely prior to the construction of Capline. The Gulf Coast refinery market presents an even more impressive picture in terms of the number of pipelines. Thus, the pipelines drawing on North and West Texas Fields are as follows: Humble Pl (100% Exxon) 18", 12", 5-8" Arco Pl (100% Arco) 10", 8" Texaco Pl (100% Texaco) 2 small diameter lines Mobil Pl (100% Mobil) 20'' Amoco Pl (100% Standard Oil (Indiana)) 10′′ Phillips (100% Phillips) 10" Texas New Mexico (45% Texaco, 35% Arco, 10% Getty. 10% Cities Service) 12" West Texas Gulf Pl (57.7% Gulf, 12.6% Sun, 11.4% Cities, 9.1% Union Oil, 9.2% In addition, a number of small diameter lines draw on the East Texas Field. These lines are owned by Sohio 10", Sun 10', Shell 10", Gulf 4-8', and for the East Texas Main Line System. Texaco 43.4%, Cities, 35.15%. Crown Central 21.45%. Finally, the Blacklake Pipeline (50% Arco, 50% Placid Oil) 8' draws on northern Louisiana as does a 20" line owned by Exxon. Thus, a total of about 29 pipelines transport crude to the Gulf Coast with additional crude available by barge from coastal fields in Texas and Louisiana and further crude (Continued) U.S. and Canada reveal secret pact details THE U.S. and Canadian Governments Terms of the agreement restricting Lakehead Pipe Line Co., subsidi. The deal limited exports from Can. ada into Dist. 1-4 to 280,000 b/d in This was the amount the Interior The governments further agreed to Canadian oil was to be kept out of Canada also promised 40 exert every foreign oil. New talks. This agreement, and the In responding to a complaint from "Inasmuch as Interprovincial does THE OIL AND GAS JOURNA herent in pipeline operations, it would be a matter of serious concern if there were not in each market only a few large capacity lines; a large number of small pipelines would clearly represent inefficiency. But because large scale pipelines are owned by vertically integrated companies, they create the kind of market conditions where there is real and continuing potential for oligopolistic capacity restriction. Some idea of the competitive structure of pipeline markets in earlier periods can be obtained by examining the return on pipeline investments in the period prior to rate regulation. While the occasionally cited dividend rates of up to 11,000 percent per annum on pipeline investments somewhat overstates the case, since the pipelines were generally grossly under-capitalized in part to avoid state capital stock taxes, the actual rates of return were clearly enormous. Wolbert cites a TNEC staff report that found "an overall average rate of return on all pipelines in 1938 of 25.4 percent on investment less depreciation, a 26.0 percent rate of return on major company crude line investment less depreciation, and 29.7 percent on major company gasoline lines, as compared to 9.4 percent return on independent crude line investment (excluding depreciation). Faced with these statistics, the Presidents of both Sun Oil Company and Standard Oil Company (N.J.) admitted that pipeline rates had been rather high in the past." 35 In addition, the ICC cites the example of the returns earned by several typical pipelines owned by large oil companies between Jan. 1, 1926 and June 30, 1938: 36 The magnitude of these returns is particularly striking since rates were reduced significantly in 1933. The magnitude of the cost price margin which generated these returns was also very large since operating expenses are not very significant. Wolbert illustrates this by referring to the four pipelines which served the Chicago refinery market in the thirties. Until mid1934 these pipelines, Shell, Sinclair, Standard Oil (Indiana) and Texas Empire, charged a rate of 46 cents per barrel while the average cost per barrel was probably less than 20 cents. Even after the rate (Continued) arriving via gathering systems from fields near the Gulf. However, there are only 6 large diameter pipelines and it is these pipelines which can expand capacity to meet growing demand without a further rise in the transport cost. These six pipelines are controlled basically by five companies with Humble owning two Arco one, Mobil one and Gulf and Shell controlling the other two. The prospects for restrictive behavior by the pipelines would be very great if it were not for the availability of additional local crude. Here it is crucial to consider the role or prorationing which virtually eliminates any price elasticity of supply, particularly because the Railroad Commission of Texas has apparently felt that it is important to ensure equal treatment of the various geographical areas and has refused to respond to bottlenecks in transportation out of West Texas with increases in allowables in the more accessible fields. Wolbert at 14. 36 ICC. Reduced Pipe Line Rates and Gathering Charges 243 ICC reports 131 (Nov. 1940March 1941). was reduced to 38.5 cents in 1934 the margin was enormous 37 The ICC also computed the excess of earnings over an 8 percent return on investment as a percent of revenue for the year 1935; they list 13 pipeline systems in which this excess was greater than 20 percent and these 13 comprised mostly the larger integrated pipeline systems.38 It is, therefore, reasonable to conclude that the structure of the prewar pipeline markets was not such as would induce competitive behavior. While in the postwar period pipelines can no longer simply set monopolistic rates and then take what traffic is offered, the same result may be achieved, given the vertically integrated structure of most pipeline owners, by restricting pipeline capacity and reaping monopoly profits through artificially maintained downstream product prices. Further, while there are generally more lines serving crude and product markets in the postwar period, because of the nature of the economies of scale in pipelines it is not the number of lines per se which determines the competitive structure of the market. Rather, the level of competition in a petroleum market is determined by the expansion decisions of the largest pipelines serving that market. As technology advances, modern large diameter pipelines, incorporating available economies of scale, hold the key to competitive market access. If pipeline capacity is restricted below the socially optimal level, integrated pipeline users can capture the resulting rents in their downstream operations. The structure of present day pipeline markets makes this behavior feasible. While these points are sufficient to motivate vertical integration, the incentive to integrate vertically and to restrict capacity is strengthened if pipeline owners can restrict the access of nonowners to the low cost pipelines. The subtle and varied means by which a vertically integrated pipeline owner can assure maximum utility of the low cost pipeline to the owner are explored below. C. Competitive Effects of Pipeline Control Control of crude gathering and trunk pipelines enables the majors to control the flow and price of crude oil. Independents with limited access to crude must rely on the majors for their supply of crude. Majors also control the access to marketing outlets. With the ability to set the price of crude high and restrict access of independent refiners to product markets, the major integrated companies can put a severe squeeze on the independent refiner and in many instances have been. able to drive the independent out of business. As de Chazeau and Kahn have stated: For the refiner not located in the field, crude oil availability is economically inseparable from access to pipelines; and the competitive margin within which he must live will be vitally affected by the tariff he has to pay for transport. Historically, there can be no doubt whatsoever that this crucial fact has been used by the majors to confine their independent rivals to secondary locations Wolbert at 16-17. ICC. Reduced Pipe Line Rates and Gathering Charges, 243 ICC Rept. 143 (Nov. 1940March 1941). Similar data regarding the profitability of product pipeline systems is presented by the ICC in Petroleum Rail Shippers' Ass'n. v. Alton & So. R.R. 243 ICC Rept. 616-17, 661 (Nov. 1940-March 1941). in producing fields and to harass those with the temerity to challenge this fate.3 39 The control of the transportation facilities and particularly pipelines is a critical factor in permitting the majors as a group to maintain a material degree of monopoly power over the prices at which they buy crude oil, and sell gasoline and other products.40 The Wherry Committee concluded in both its Interim and Final Reports that crude pipelines were principally owned by majors. "This control over pipelines enables the major oil companies to control crude oil at the source, and the further advantage of transportation costs which are lower than the rates charged independent refiners who ship by rail." 41 The O'Mahoney Committee concluded similarly. Control over pipelines yield control over crude oil and the power of life and death over independent producers. Control over pipelines gives majors the power to discriminate against independent producers and deprive them of a market for oil. It gives them the power to discriminate against independent refiners by depriving them access to crude. "By restricting independent producers from access to markets and independent refiners from free access to supplies of crude, the control of pipelines by the integrated oil companies enable the major to stifle its would-be competitors, and to perpetuate its hold upon all phases of the oil industry, from production to sale to the ultimate consumer." 42 This same theme has been echoed in modern-day hearings. "Pipeline control and ownership by the major integrated companies presents the potential for excluding or limiting flows of crude oil or refined product to independents." 43 Others have testified that the control of common carrier transportation facilities by majors suppresses competition." "A central element of majors' control of product is the product pipeline network. The majors' control of product pipelines enables them to determine the disposition of a large portion of refined product and limit the competitive marketing behavior of independent refiners and marketers." 45" And "control of the crude oil pipeline system greatly expands the majors' control of the domestic crude supply far beyond the amount they produce themselves.” 46 1. ACCESS AND NONOWNER USE OF PIPELINES The most persistent problem confronting users of integrated oil company pipelines is the difficulty in securing access to the pipeline. 39 De Chazeau. Melvin and Kahn, Alfred E., Integration and Competition in the Petroleum Industry. Yale Univ. Pres, New Haven, 1959 at 512. [Hereinafter cited as De Chazeau and Kahn See Black. Forest R., Oil Pipeline Divorcement by Litigation and Legislation, 25 Cornell L.Q. 510, 512 (1940) [Hereinafter cited as "Black"]. 40 Rostow. Eugene V. A National Policy for the Oil Industry, Yale Univ. Press. New Haven, 1948 at 57 [Hereinafter cited as "Rostow"]: Rostow, Eugene V., and Sachs. Arthur S., Entry into the Oil Refining Business: Vertical Integration Re-examined, 61 Yale L.J. 856 at 857, 914 (1952) [Hereinafter cited as "Rostow & Sachs"]. 41 Staff of Special Senate Comm. to Study Problems of American Small Business, Oil Supply & Distribution Problems, S. Rept. 806, 80th Cong., 1st sess., 1947 at 7 [Hereinafter cited as "Wherry, interim"]; Wherry, final at 20. 42 Staff of Senate Comm. on the Judiciary. Petroleum, the Antitrust Laws and Government Policies, 85th Cong., 1st sess.. 1957 at 28 [Hereinafter cited as “O'Mahoney Report"]; Joint Hearings, Emergency Oil Lift Program & Related Oil Problems, Before the Subcomms. of the Senate Comm. on Interior and Insular Affairs, 85th Cong., 1st Sess., 1957, testimony of Delaney. Clark and Schultz [Hereinafter cited as "Oil Lift Hearings"]. 43 Consumer Energy Act at 105; see generally. Small Business report. 44 Industrial Reorganization, Part 8 at 6232; see also, Consumer Energy Act at 666; Market Performance, Part I at 442; and Industrial Reorganization, Part 9 at 5 et seq. and 82-152. 45 PICA at 54-55. 40 Id. at 27. |