« PreviousContinue »
Senator TUNNEY. Is it your general impression that the Sun Pipeline Co. was putting pressure on you to cancel your contract for the purchase of that crude?
Mr. SEISS. I certainly believe they were throwing obstacles into our path to prevent us from being successful with that purchase, which was made above the market price in west Texas. We
e were a new purchaser in west Texas. We produce crude in west Texas, but this was the first time we had gone into the
market purchasing crude at the lease in west Texas.103 Mr. Seiss concluded from this experience and his general knowledge of the industry:
We find ourselves from the lease, locked out of crude oil pipelines by the logistical and practical operating problems of the industry. The same is true, to some extent, in the movement of
products. 104 Thus, the ownership of crude pipelines by major oil companies causes
roblems to independents to the extent the major needs the crude and the pipeline capacity. In those situations, "to the extent that they can back you out of that line, you are going to be backed out of it." 105
5. PURCHASER PRORATIONING
Purchaser prorationing or ratable taking refers to situations in which the buyer of crude oil in the field refuses to buy all the oil the producer is allowed to produce. Thus, ratable taking will occur only when local supply of crude oil exceeds the demand of the purchaser. 106
In the past, the most common immediate reason for ratable taking was the unavailability of sufficient tankage to take all the crude of fered.107 Its pernicious effect stems from the uncertainty confronted by a producer who has a pipeline connection to its production and an allowable level of production granted by the state conservation agency. The producer expects to be able to sell all the crude it is allowed to produce. However, ratable taking limits the amount of production the buyer will take and may even force the producer to shut down production altogether due to his limited wellhead storage capabilities.
This problem was particularly acute in the midfifties when integrated oil companies preferred to buy imported oil at lower prices than higher priced domestic oil and further favored their own production of high priced crude oil over that of independent producers. Through such selective purchasing, the integrated majors were assured they would reap the maximum benefits of high crude oil prices. Senator O'Mahoney held extensive hearings on the problem and exposed the discriminatory practices of major oil companies.108 The problem was alleviated somewhat with the imposition of import quotas, which effectively raised the price of imported crude, making domestically produced crude more desirable. Further, disappearance of the oil depletion allowance and the recent crude shortages coupled with the quantum leap in worldwide crude prices have diminished the incentives of major integrated firms to maintain artificially high domestic crude prices and to restrict the supply of independent producers in order to protect those prices.
103 Ind. Reorg., Part 8 at 6041, 6242-43.
108 Staff report of Senate Comm. on the Judiciary, Petroleum, the Antitrust Laws and Gorernment Policies, 85th Cong. 1st sess., 1957 (Hereinafter cited as “O'Mahoney report”]; Oil Lift hearings.
Purchaser prorationing points, however, to an undesirable degree of control over particular field markets for crude by large integrated buyers.109 Thus, its future resurgence should be prevented due to its pernicious and destabilizing anticompetitive effects.
6. WELL CONNECTIONS
Refusals to grant gathering connections to independent leases is an additional means by which vertically integrated oil companies have exploited their pipelines to maintain control over crude oil supply and price. Refusing to extend gathering lines to independent leases, vertically integrated firms have forced independent producers to resort to higher cost truck transportation, shut in production, or find some other form of transportation. This problem arose in 1948 and worsened during the fifties.110 Many gathering lines refused to extend their pipelines to newly discovered wells. The producer was forced to rely on trucking as the principal alternative to the pipleline.111 A dual price structure developed whereby crude oil purchasers would give the unconnected producer a lower price for the crude because of the higher trucking fee. 112 Thus, the producer was forced to bear the cost of trucking, while those producers with pipeline connections found that the crude purchaser bore the cost of all the transportation.113
The proliferation of unconnected wells permitted the major oil company purchaser to avoid the application of the common purchaser laws and therefore was a means to reduce purchases from domestic oil fields. Like purchaser prorationing, it permitted the major oil company to control production from a field and gave that company inordinate control over pricing and marketing. The purchaser was able to avoid the common purchaser laws because those laws applied only to the initial transaction between the purchaser and the producer. Since the trucker made the initial purchase, the oil company purchaser was able to buy as much or as little as it wanted from the producers of unconnected wells.114 Thus, the oil companies were able to control the unconnected producer's production to a level below that permitted by the state regulatory authorities, thereby restricting supply and maintaining a higher crude price level.115
The O'Mahoney hearings and the 2d AG report provided forums for the airing of these complaints. The state regulatory commissions attempted to deal with the problem as best they could, but the persistence of the problem indicated that state conservation laws necessarily were not self-executing, relying instead on the cooperation of industry participants. With complaints from producers, state regulatory agencies attempted to rectify the problem.
109 21 AG report at 89. 110 2d AG report at 95 ; 011 Lift hearings, 890. 111 O'Mahoney report at 30. 119 d. at 30. 118 2d AG report at 96. 114 Oil Lift hearings at 891 ; 2d AG report at 94-101. 115 Id. at 965, 972, 999.
It is unlikely that this problem will in the future plague newly discovered wells. With current high levels of demand by integrated oil company purchasers, their interests appear to lie in connecting every well practicable. But the problem is symptomatic of the industry generally: the recurrent attempts by major integrated oil companies to maintain control over price and supply at the crude production level.
7. COST OF TRANSPORTATION ADVANTAGE
Owners of pipelines have real cost advantages in using their pipelines due to their ownership. Regulation requires that pipelines post tariffs and collect the tariff from all shippers including owners. But as long as those tariffs are above cost (including a competitive rate of return on the owners' actual investment), the owners will realize some advantage over nonowner shippers to the extent of the difference between the tariff and the actual cost to ship over the pipeline.116 The difference between the cost and the tariff is recouped through the dividend or some other bookkeeping transaction that shifts the differential to the owner.117
The pipeline owner realizes a double advantage when nonowners use the pipeline. Besides the direct advantage of shipping at cost while nonowners must ship at the tariff, the owner receives a profit on the outside shipments. 118 The nonowner is contributing to the lower cost reaped by the owner and, in effect, contributing to its own competitive disadvantage.
The difference between tariff and cost can be substantial. Evidence developed during the TNEC hearings indicated that some pipelines charged a rate of 20 cents per barrel (including a 6 percent return on investment), while the cost to ship ... was 10 cents per parrel.119 The ICC too found that there was no relationship between the tariff charged and cost to ship.120 Recently, this cost differential has been estimated to be 20 to 30 percent.121
The cost differential has been recognized by all observers of pipelines and each has indicated that nonowners using the lines in competition with owners are placed at a serious competitive disadvan
No company wants to pay its competitors a premium on oil shipment if the competitors are getting transportation at cost. And each company would prefer not to be dependent on its competitors either for raw materials or for essential transportation
service. 123 As owners, the principal customers of integrated pipelines have no incentive to exert competitive pressure for lower rates. Independents lack the market power to effectively influence the pipelines' rate structure for the pipeline does not solicit or welcome their patronage. The wide disparity between cost and tariff raises the cost of gasoline 124 and may constitute an illegal rebate under the Elkins Act.125 This rebate, whether legal or illegal, provides a subsidy to the pipe
119 Wolbert at 52. 117 51 Yale L. J. 1341. 118 Wolbert at 52; 51 Yale L.J. 1341. 118 51 Yale L.J. 1341. 130 Reduced Rates and Gathering Charges, 24 ICC 115, 139 (1940) and Petroleum Rail Shippers' A.88n. v. Alton & Southern R.R., 243 ICC 589, 616 (1941).
in Small Business report at 13.
172. Beard at 110-111; Previtt at 192 ; Cook at 19-20 ; Wherry, interim at 6–7; Wherry, Anal, at 11 and 20 ; Consent Decree report at 133; Small Business report at 13; and FTC1973 at 26.
12 Rostov & Sachs at 900_01.
а line owners which may be used to subsidize other segments of the vertically integrated company that are operating at a loss.
Regardless of whether or not subsidization is exercised by vertically integrated pipeline owners, they nevertheless enjoy a very real cost of transportation advantage over nonowner shippers. Only cost based rates or independent ownership could effectively equalize this competitive disadvantage.127
8. THE JOINT VENTURE
The now pervasive 128 joint venture form of pipeline ownership developed slowly. The first joint venture was formed in 1921 when Standard of Indiana bought a one half interest in Sinclair's pipeline from the Mid-Continent to Chicago.129 The first newly developed joint venture pipeline was the Texas-Empire Pipe Line formed in 1928 by the Texas Company and the Empire Gas and Fuel Company, a subsidiary of Cities Service, from the Midcontinent to refineries in Illinois.130 The first product pipeline joint venture was the Great Lakes Pipe Line Company formed in 1930,131 With the start of these systems, the concept grew until in the seventies approximately 85 joint venture systems moved one third of all crude oil and two thirds of all product pipeline movements.132
Joint venture companies are formed to build, own and operate new pipelines. The owners subscribe to shares of stock, in proportion to their expected throughput with readjustment provisions to provide for varying percentages of actual throughput. The financing is based on the throughput commitments of the owners, that is, long term debt is given by banks or other lending institutions in return for the oil companies commitment to ship sufficient throughput through the system to cover all costs including debt service or pay cash deficiencies in the event of revenue short falls. The owners receive dividends from the joint venture company, 133
There are decided advantages to vertically integrated oil companies in the joint venture form of pipeline ownership. The investment required by the joint venture is substantially less than required for wholly owned lines. Because the project financing is based upon throughput commitments, equity contributions usually are 10 percent with 90 percent of the project's cost represented by long term debt 134
124 Oil Marketing Divorcement at 377. 125 Consent Decree report at 134 ; this issue will be developed to a greater degree, infra.
126 Wolbert at 57; Prewitt at 199-200; Johnson at 232-33. Prewit examined pipeline dividends as a percent of net income of parent companies during the thirties. His findings showed that this percentage ranged from 2 percent to 200 percent. His conclusion was that anything over 100 percent indicated that pipeline profits were subsidizing other segments of the industry. (Prewitt at 199–200.] Moreover, he points to testimony of oil company executives stating that the marketing portion of the industry is not profitable and that the dividends of the pipelines are used to make up losses in the marketing segment. [Prewitt at 200.) The effect of this practice is to make it more difficult for the independent refiner. marketer to remain competitive or even stay in business.
12. Market Performance, part 3 at 1001.
Moreover, the debt is considered to be the primary obligation of the joint venture and is not quantified in the financial reports of the owners.135 This permits increased use of debt without balance sheet reporting. Additionally, there is a collective financial risk rather than an individual financial risklessening the chance of failure as well as the magnitude of the failure.136 Joint ventures, very importantly, permit vertical integration into large diameter pipelines by small and large companies. Thus, companies that could not afford to build large diameter lines or fully employ them with their own resources can share in the ownership and obtain the significant economies associated with large diameter pipeline transportation.137
At the same time, the joint venture agreements give individual major participants veto power over pipeline expansions. Through restriction of capacity and allocation of ownership shares, the joint venture pipeline serves as an effective vehicle for maintenance of a cartel among the shipper-owners, preserving the integretity of downstream product prices while stabilizing market shares of the participants.138
Industry participants have further urged that the cost of large diameter lines is a substantial deterrent to individual ownership; however, some have observed that risk-pooling arguments are not particularly compelling due to the low level of equity participation.139 Undoubtedly, some projects such as the Trans Alaska Pipeline do entail risk pooling due to the magnitude of the project.
The undivided interest system displays many of the characteristics associated with joint venture pipelines. The undivided interest line is a form of joint venture; however, although it is one large diameter pipeline, it is in effect a single line consisting of a bundle of different sized lines, each with a distinct pipeline company owner. It enjoys the economies of a large diameter pipeline, but each owner exercises full control over tenders, tariffs and other requirements on its share of the line. The cost of the line is allocated based on ownership shares, with those costs that vary with throughput allocated on a throughput basis. It is operated for all the owners by an agent who is usually one of the owners.140 Undivided interest lines permit each owner to arrange for its own financing. It permits the owner to incorporate the record keeping of its share of the line into existing pipeline operations without the need to develop a new management unit as would be required in separate joint venture subsidiaries. The owner can choose or decline to participate in expansions. The ownership can be divided into line segments, so that ownership shares can vary according to segment. No throughput agreements are required since each owner arranges for its own financing. And with the ownership share in
134 AOPL at 43; Johnson at 142. 135 AOPL at 43.
18. Johnson at 386; Mitchell, ed. at 126-27 : PICA hearings at 256. 133 As the Attorney General has pointed out, even if shippers appear to be treated equally, "the decision of the owners to restrict pipeline capacity is the ultimate denial of access. Report of the Attorney General pursuant to section 19 of the Alaska Natural Gas Transportation Act of 1976. p. 40 (italics in the original), July 1977.
12 Mitchell, ed. at 126-27.