Bad Break For Premier Notley And Industry: CN’s St. Lazare Oil Spill Was From DOT-117R Retrofit Tank Cars

The Transportation Safety Board’s Feb 19 comments on the Feb 16 CN crude oil tank car derailment and oil spill in St. Lazare, Manitoba seemed to get overlooked.  The TSB comments were preliminary, and only stated some basic facts on the oil spill.  They were mostly ignored in a Cdn oil news day dominated by Premier Notley’s announcement that Alberta signed contracts with CN and CP to lease 4,400 rail tank cars that would start railing oil with 20,000 b/d by July and would reach 120,000 b/d by mid 2020. The TSB said that 37 Class 117R tank cars derailed, two had no visible tank car damage or leaks, but the “remaining 35 derailed cars came to rest piled up in various positions over a distance of approximately 300 to 400 feet. Some tank cars were breached and released various amounts of product, which was mostly contained in a low lying area adjacent to the track”.  The Liberals first announced in Sept their desire for an accelerated phase out of the jacketed CPC-1232 tank cars (basically the equivalent to the DOT-117R retrofit tank cars).  Post the recent CP Feb 5 tragic derailment near Field BC, Transport Minister Garneau said “As I have said many times before, rail safety is my top priority and I will never hesitate to take appropriate actions when necessary.”  We believe the Feb 16 St. Lazare DOT-117R tank car derailment and oil spill is likely the catalyst for the Liberals to make this accelerated phase out decision in the next few months and a phase out period would be sometime after year end 2019.  A phase out would effectively reduce the new Alberta rail car capacity by ~27,000 b/d, and have a huge impact on existing Cdn crude by rail capacity that is likely ~40% by jacketed CPC-1232 or DOT-117R retrofit tank cars.  Its why we say the TSB comments may lead to an even bigger impact on Cdn heavy oil differentials than Notley’s rail car announcement.  And it also means the start up of Enbridge’s 375,000 b/d Line 3 replacement by year end 2019 is even more critical to have any chance that an accelerated tank car phase out doesn’t hit hard Cdn heavy oil differentials and require another Alberta oil curtailment.

The Feb 16 St. Lazare Manitoba oil tank car oil spill was from DOT-117R retrofits.  The Transportation Safety Board of Canada posted its initial report on Feb 19 [LINK] on the CN Feb 16 oil tank car spill in Manitoba.  The tank cars that leaked oil were DOT 117R retrofits.  The TSB said “On 16 February 2019, at 2:31 am Central Standard Time, a Canadian National (CN) unit train, consisting of 110 tank cars loaded with crude oil, was proceeding eastward at about 49 mph on the CN Rivers Subdivision when it experienced a train-initiated emergency brake application at Mile 198.30 near St-Lazare, Manitoba. TSB site examination determined that 37 Class 117R tank cars had derailed. The fifth and sixth cars remained upright and had no visible tank damage or leaks. The remaining 35 derailed cars came to rest piled up in various positions over a distance of approximately 300 to 400 feet. Some tank cars were breached and released various amounts of product, which was mostly contained in a low lying area adjacent to the track. There was no fire, no injuries and no evacuation. The TSB is investigating.”

St. Lazare Oil Tank Car Derailment and Spill

manitoba-oil-spill

Source: Winnipeg Free Press

DOT-117J vs DOT-117R vs CPC-1232 tank cars.  The Cdn oil sector is now down to 3 types of tank cars for moving crude by rail.  This week’s Alberta govt announcement  [LINK] of their leasing of 4,400 tank cars provided their explanation of the DOT-117J new builds vs DOT-117R retrofit tank cars.  Alberta noted the “DOT-117J tank cars are the latest safety standard. These tank cars are made of thicker steel (14.3 millimetres or 9/16 inches) and have additional safety features compared to other tank cars. Additional safety features include performance standards for thermal protection and head and shell puncture resistance, as well as enhanced performance standard for bottom outlet valves.”  Alberta also noted the “DOT-117R tank cars are retrofitted to meet the 117 specifications to include a jacket and head shield. They have 7/16-inch shell thickness with 11-gauge steel jacket for thermal protection”.  The jacketed CPC-1232 tank cars are equivalent to the DOT117R with a jacket on top of a 7/16” shell.

The Liberals warned on Sept 19, 2018 that they wanted to accelerate the phase out of the DOT-117R and jacketed CPC-1232 tank cars.  For the last five months, our weekly Energy Tidbits memos have highlighted the risk that the Liberals would accelerate the phase out of these tank cars and that this would significantly reduce the Cdn crude by rail capacity.  We also posted a very specific blog on Notley’s crude by rail plan and this risk with our Nov 30, 2018 blog “Our Suggestion To Premier Notley: Act Now, Don’t Let The Liberals Accelerate The Phase Out Of Jacketed CPC-1232 Tank Cars” that included the Sept 15 warning from Transport Canada.  Our Nov 30, 2018 blog said “The Liberal government’s recent Sept 19, 2018 “Transport Canada speeds up removal of least crash-resistant rail tank cars from service” press release [LINK]  also included a key warning sentence “The Minister today also announced his support for an industry-led crude oil and condensate tank car working group that will make recommendations to Transport Canada on advancing the timelines for the phase out of jacketed—with a layer of thermal protection—CPC 1232 tank cars.”  The Liberals clearly said the Transport minister was supporting this acceleration.  One other factor that makes us worry about this acceleration is that the Liberals will have the cover of following the relatively under the radar similar changes that started to happen on certain railway lines in the US this summer.”  It has been our expectation all along that the Liberals would do this prior to the Oct 2019 election.  Prior to this month’s rail derailments, we thought the timing consideration for an announcement would be whether the Liberals wanted to draw attention to the phase out (a before summer announcement) or to have it done as quietly as possible (a summer announcement).

We believe the Feb 16 St. Lazare DOT-117R tank car derailment and oil spill is likely the catalyst for a Liberal accelerated phase out decision before the summer.   It is also important to remember Transport Minister Garneau’s comments following the Feb 5, 2019 CP Rail derailment near Field BC that led to the deaths of 3 CP rail workers.  Post this tragic CP Rail derailment near Field, BC, Transport Canada issued a release “Minister Garneau orders precautionary safety measures following Canadian Pacific derailment near Field, British Columbia[LINK].  It was a short release that noted Transport Canada is “conducting an investigation for the purpose of determining compliance with both the Canada Labour Code and the Railway Safety Act related to the February 4, 2019 railway accident that resulted in the deaths of the three Canadian Pacific employees.”  And “As a precaution until such time that the exact cause of the accident is determined, my department has issued a Ministerial Order under the Railway Safety Act to all railway companies mandating the use of handbrakes should a train be stopped on a mountain grade after an emergency use of the air brakes. This order takes effect immediately and will remain in effect as long as necessary.”  For us, there was a key Garneau quote that reminds of our why we expect to see an accelerated phase out of the jacketed CPC-1232 tank cars.  Garneau said, “As I have said many times before, rail safety is my top priority and I will never hesitate to take appropriate actions when necessary.”  We haven’t seen any Garneau quotes post the CN St. Lazare oil spill, but we believe this oil spill will be the catalyst for the Liberals to take action before the summer to accelerate the phase out of the jacketed CPC-1232 and DOT-117J tank cars.  We suspect the timing issue will be if they want to hold it until after the Alberta May election to avoid giving one more item for the opposition UCP party against the NDP.

It will be a bad break for Premier Notley as 1,000 of her 4,400 new tank deal are DOT-117R retrofits.  On Tues, the Alberta government announced [LINK] it was leasing 4,400 tank cars, enough to move up to 120,000 b/d by 2020, with the first rail shipments as early as July 2019.  The timing and general content of the rail tank cars was expected, but most had expected a greater number of tank cars.   The most attention on Notley’s press conference were her comments that there was “absolutely no risk”.  One thing is clear is that the Alberta NDP don’t share our concern that the Liberals will accelerate the phase out of the tank cars, even after the St. Lazare tank car oil spill.   The Alberta announcement this week did not address this risk as their tank car leasing included more than the new build DOT-117J tank cars.  Rather, Notley indicated that Alberta’s 4,400 tank cars will include only “Rail cars include DOT-117J and DOT-117R models, which meet all current safety standards outlined by Transport Canada”.   We listened to CBC’s recent Feb 5, 2019 40 min Notley Q&A [LINK] and she said about how she wanted to be like Gretzky and skate to where the puck is going.  We agree with the Alberta announcement this week that both types of tank cars meet “current” safety standards, but our concern is the Liberals (starting in Sept) have told everyone where the puck is going (an accelerated phase out). CBC reported [LINK]  on this week’s Notley press conference comments that Notley indicated the split was 3,400 were DOT-117J New Builds And 1,000 were the DOT-117R Retrofits.  If the Liberals accelerate the phase out, this means that the Alberta extra crude by rail capacity would not be 120,000 b/d, but ~93,000 b/d.

It will be a bad break for Cdn crude by rail as this could impact approx. 40% of capacity.   If the Liberals announce an accelerated phase out, we would expect to see a phase out period sometime after year end 2019, but likely not more than 1 year in the future.  The impact would be material to Cdn crude by rail capacity and the Liberals would (or should) not want to have a phase out period before the start up of the Enbridge’s 375,000 b/d Line 3 replacement.  On Wed, the National Energy Board [LINK] reported Canadian crude by rail exports for Dec 2018 of  353,789 b/d, which is up from 330,399 b/d in Nov 2018 and up 202,000 b/d YoY vs 151,940 b/d in Dec 2017.   Dec crude by rail exports were high due to the mild Dec weather.  The challenge for crude by rail in Canada and in the US is that the jacketed CPC-1232 and DOT-117R retrofits are the majority of allowable tank cars.  The latest US data from the Association of American Railroads via the Railway Supply Institute [LINK] was that the split of tank cars in Q3/18 was 45% DOT 117J vs 55% CPC-1232 cars.  But the % of DOT-117J new builds has been increasing at a strong rate. We would expect that the splits as we get to mid year 2019 could see the CPC-1232 share down to approx. 40%.  There isn’t publicly available Cdn data showing the split of tank cars.  However, our Nov 11, 2018 Energy Tidbits memo [LINK] noted comments from our attending a small group meeting arranged by BMO with CN rail management that week. At that meeting, we asked mgmt. if they had a sense of the percentage of DOT-117J tank cars that run on their system.   We discussed, they didn’t have a specific precise number but said that the split is likely similar to the US at roughly 40% DOT-117J vs 60% others that would include jacketed CPC-1232 tank cars.  But that over time the percentage of new build DOT-117J will continue to increase.    We would expect that a similar share of approx. 40% for mid 2019 is a reasonable estimate.

Enbridge’s Line 3 timing becomes even more critical.  The timing for any accelerated phase out is critical.   If the phase out period is too short (ie. before year end 2019), it could lead to a big hit to Cdn heavy oil differentials and the need for another Alberta oil curtailment period.  But fortunately, there is a saving factor to more than offset the impact of an accelerated phase out – Enbridge’s Line 3 replacement project to add 375,000 b/d of additional takeaway capacity.  This will be the key event determining the impact on Cdn heavy oil differentials from an accelerated phase out. Line 3 is to add 375,000 b/d of additional capacity.   Enbridge had its Q4 earnings call on Feb 14 and included a detailed commentary on the remaining Line 3 steps, but also noted that they are no longer looking for Nov 1 start up, rather a start up by year end 2019.  Enbridge noted they need to start construction in June to hit the by year end 2019 target.   And they also reminded of an important Line 3 construction logistic – there are no seasonal issues.  In the Q&A, mgmt. replied “Yeah. So to the first part, based on the plan that we’re looking at right now to have the line in service by the end of the year, there is really no construction or seasonal issues that we would run into within that timeframe. I think at the outside, we believe we will need to be in the field sometime in June to achieve that date.” The no seasonal construction issue is significant as it means that if there is a two month delay to the start, it means that the completion should be delayed two months, whereas seasonal construction issues would mean a two month construction start delay would results in a much longer than two month start up delay to the pipeline.