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Energy Company Contract Lawsuits Could Have Huge Impact on $500 Billion Pipeline Sector

The Law Office of C. William Smalling, P.C. March 21, 2016

Can oil and gas producers use Chapter 11 to escape long-term pipeline contracts?

Falling energy prices have put many Texas oil and gas producers in a difficult spot, particularly those committed to long-term contracts with the pipeline companies that transport their products.

Houston-based Sabine Oil and Gas and Fort Worth-based Quicksilver resources are seeking permission from bankruptcy courts to cancel or renegotiate long-term pipeline and gathering contracts. If the requests succeed, midstream companies, many of which have invested billions in pipelines and other infrastructure for fracking, could face serious problems as other oil and gas producers adopt the same strategy.

A bankruptcy court judge has already suggested that Sabine may be allowed to end its contract with Nordheim, a subsidiary of Cheniere Energy. Cancelling the contract, which lasts until 2024, would save Sabine millions and allow them to pursue cheaper alternatives.

Many midstream operators have felt immune to market fluctuations and bankruptcy risks because of their reliance on long-term contracts. These often guarantee pipeline operators fixed fees to transport minimum volumes of oil or gas, with penalties payable to the pipeline companies if the minimum is not met. But cancelling those contracts could change that.

Lawyers for Nordheim claimed that its contracts were more than ordinary commercial agreements and gave Nordheim the right to collect and transport gas within a certain area— in effect, ownership rights. Like a property deed restriction, they argued, the right could not be altered by a bankruptcy court.

The judge in the case has not yet ruled but appeared unswayed and seemed to question whether the contract transferred ownership rights to the land.

Quicksilver, meanwhile, is seeking a court's permission to cancel its contract with Crestwood Equity Partners, a step that would facilitate the sale of Quicksilver to another energy company. If the contract remains in place, the sale price would be much lower.

Other large pipeline operators, such as Williams Companies and Enbridge, have said they are reviewing their contracts and pursuing additional credit guarantees to ensure the rout in energy prices does not affect them.