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Gas industry

Texas Supreme Court Upholds 20-Year Natural Gas Contracts with Exorbitant Prices

Strategic Insights

— 1 min read

The Texas Supreme Court has delivered a significant ruling on natural gas contracts, upholding 20-year agreements between Tennessee Gas Pipeline Co. and several producers, including Tesoro Petroleum Co. and KCS Energy Inc. The contracts, which date back to 1979, require Tennessee Gas to purchase natural gas at prices significantly higher than the current spot market price, with some producers receiving as much as six times the current market rate. The ruling has significant implications for the natural gas industry, as it subjects these contracts to Texas' Uniform Commercial Code sales regulations, which limit sales to volumes produced in good faith and in reasonable proportion to historic output.

Key Takeaways:

  • The Texas Supreme Court has upheld 20-year contracts between Tennessee Gas Pipeline Co. and several natural gas producers, including Tesoro Petroleum Co. and KCS Energy Inc.
  • The contracts, which date back to 1979, require Tennessee Gas to purchase natural gas at prices significantly higher than the current spot market price, with some producers receiving as much as six times the current market rate.
  • The contracts are deemed "output" agreements, subjecting them to Texas' Uniform Commercial Code sales regulations, which limit sales to volumes produced in good faith and in reasonable proportion to historic output.
  • The ruling will be sent to the District Court of Texas, which will determine whether the producers intentionally boosted output to reap the above-market prices under the contracts.
  • Tesoro Petroleum Co. estimates the current price under its contract with Tennessee Gas to be about $8.59/Mcf, compared to a spot price of around $1.40.
  • The take-or-pay contracts accounted for almost a quarter of Tesoro's production in the first quarter of 1995, with 25.6 MMcfd out of total output of 105.9 MMcfd.

Statistics:

  • When the contracts were signed in 1979, the spot price of natural gas was likely lower than the current market rate.
  • The contracts expire in 1999.
  • The average price paid by Tennessee Gas for gas from Tesoro in the first quarter of 1995 was $8.32/Mcf, up from $7.80/Mcf in the year-ago quarter.
  • Tesoro's revenue from the take-or-pay contract accounted for a significant portion of its earnings, with the company halting trading in its common stock to evaluate the implications of the court case.

Sources:

  • The Oil Daily
  • News release from Tenneco Gas Co.

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