For Saddle Creek, it's sink or swim in the natural gas pool
It's gone out on a limb with its commitment to CNG. But the payoff could be huge.
It's a typically oppressive mid-September afternoon in central Florida when Michael J. DelBovo straps in behind the wheel of a demonstration tractor. DelBovo releases the handbrake, pushes the drive button, and fires up his company's, and perhaps his industry's, future.
DelBovo, 49, is president of Saddle Creek Transportation, the transport arm of Lakeland, Fla.-based Saddle Creek Logistics Services, a third-party logistics provider (3PL) with fingers in the asset- and non-asset-based transport, warehousing, packaging, and fulfillment pies. Like most 3PLs, Saddle Creek has benefited from the secular trend of businesses offloading more of their supply chain functions to outside specialists; since 1993, its revenues have compounded annually by 10 percent, a growth rate the company sees continuing.
With about $260 million in annual revenue, privately held Saddle Creek flies under the radar of bigger 3PLs. But there is one area where the company has gone where no one else yet has: a make-or-break commitment to a natural gas-powered truck fleet.
In January, Saddle Creek rolled out 40 trucks powered by compressed natural gas (CNG). It has now launched the second phase, with plans to bring 62 more CNG-powered trucks online by year's end. It has invested about $17 million in the first 102 tractors alone.
In all, Saddle Creek operates 320 rigs, of which 220 of are company-owned and the rest controlled by owner-operators. It expects to add 80 company-owned rigs by the end of next year, while keeping the owner-operated segment at 100. By the end of 2014, all of Saddle Creek's 300 company-owned rigs are expected to be powered by natural gas.
"No for-hire carrier has taken it as far as we have," DelBovo said in an interview at the company's Lakeland headquarters.
REASONS TO CONVERT
Saddle Creek cited a myriad of reasons for the conversion. CNG is cleaner-burning than diesel fuel and, as a result, is more environmentally friendly. It's also a safer energy source. If a tank ruptures or is punctured, the gas doesn't spill or ignite. It simply dissipates into the atmosphere.
Using CNG has also made Saddle Creek more appealing to some potential customers, according to the company. More shippers are becoming environmentally aware, even to the point of including environmental requirements in requests for proposals. Saddle Creek executives say the company's commitment to natural gas has given it an edge in contract bids—all other capabilities with rivals being equal. "It's cracked open doors," said Brad M. Rolland, director of business development.
But the core factor—especially in a thin-margin industry where fuel has replaced labor as the biggest expense—is economics. It costs $2.50 a gallon for Saddle Creek to fill up with CNG. Similarly the related liquefied natural gas (LNG) costs about $2.80 a gallon. (LNG is created when the gas is cooled down in stages until liquefied and is then stored for shipping.) The price of both fuels is pegged to natural gas futures prices, which as of mid-September traded at about $2.77 per million British thermal units (BTU), according to mid-September data from the U.S. Department of Energy's Energy Information Administration (EIA).
By contrast, the average cost of a gallon of diesel fuel stood at more than $4.08 a gallon, according to EIA data through Sept. 24. Since July 2, the start of the third calendar quarter, diesel prices have risen about 46 cents a gallon.
DelBovo calculates that at current diesel prices, it costs about $76,000 annually to fill up each tractor-trailer with diesel fuel. By running on natural gas instead, DelBovo estimates that, after all costs are included, Saddle Creek saves the equivalent of 20 cents a mile. This savings becomes significant when you consider that the company's rigs log, on average, about 110,000 miles a year.
THE INFRASTRUCTURE HURDLE
In addition to the cost to convert the rigs, Saddle Creek spent $3 million to erect a natural gas compression and fueling facility on its Lakeland campus. The facility was built and is maintained by Clean Energy Fuels Corp., a Seal Beach, Calif.-based natural gas provider for transportation.
Saddle Creek also uses a fueling depot at a public facility at Hartsfield Atlanta International Airport, and it has access, as do others, to Clean Energy's fueling network.
All of Saddle Creek's CNG fleet operate in the Southeast so drivers can have access to the Lakeland or Atlanta fueling depots. The dynamics of the company's current fueling infrastructure illustrate the biggest hurdle for CNG use: the absence in large swaths of the country of the pipelines required to move natural gas in its compressed form to fixed locations.
Saddle Creek has a ready supply of CNG because it has a pipeline that runs on its property. But most truck fleets aren't so lucky. To encourage a faster conversion to natural gas, DelBovo said the federal government could create incentives to support the build out of an extensive pipeline transmission network. Other than that, he believes the private sector is capable of funding the entire conversion effort.
A LEAP OF FAITH
For Saddle Creek, which doesn't have shallow pockets but doesn't have a limitless supply of funds either, the three-year project was a big and uncertain leap. There were questions about the costs, the integrity of largely untested equipment, and whether a return on investment (ROI) could be achieved within an acceptable timeframe.
The challenge was compounded by the lack of data needed to measure and model the project's cost-effectiveness. In the end, the company estimated a four-year ROI, assuming its rigs run their normal miles and diesel prices hover around $4.15 a gallon.
Saddle Creek delayed purchases of new or replacement rigs for several years so it could watch the marketplace evolve. This also gave it time to husband resources until it was ready to move forward.
Fortunately for the company, the project coincided with the onset of a drilling and exploration boom that would unlock massive quantities of shale oil and gas from regions such as the Bakken Formation in the Northern Plains and the Marcellus Shale running through five eastern states. Convinced natural gas supplies would become more plentiful and prices would soon begin to plummet, Saddle Creek decided to act.
Because there was no operational roadmap, Saddle Creek devised its own. The company equipped its first 40 tractors with four tanks, while the next 62 rigs will come with five. Though the tanks are expensive propositions to build and to fuel, Saddle Creek reasoned that drivers could log more miles between fill-ups and wouldn't have to worry about refueling until they reached Atlanta or Lakeland.
Each tank has a 20-year useful life, meaning that with a four-year ROI the subsequent 16 years would be considered gravy. The company is hoping that increased demand will help drive down the future costs of tanks and compressors.
Its custom-designed equipment required Saddle Creek to work closely with vendors such as truck manufacturer Freightliner, engine maker Cummins Inc., and Allison Transmission Inc. Together, they are all walking down the same unmarked path. "We are all learning," DelBovo said.
For drivers who spent entire careers driving diesel-powered trucks, Saddle Creek created an extensive list of "Frequently Asked Questions" that they could refer to while on the road. The company even developed its own fuel surcharge formula, pegged to prices quoted at the Henry Hub, a natural gas distribution hub in Louisiana that intersects with 13 pipelines and lends its name to the pricing point for natural gas futures contracts traded on the New York Mercantile Exchange.
Saddle Creek said its gas surcharges are lower than present-day diesel surcharges. With diesel at $4.00 a gallon, fuel surcharges add about 25 percent to a shipper's base rate, according to estimates from consulting company IHS Global Insight.
In making its investment, the company has bet that natural gas prices will remain historically low and that diesel prices will stay elevated. DelBovo isn't concerned that natural gas prices have historically been much higher than they are today. "That was before fracking [short for the extraction technique known as hydraulic fracturing]," he said.
As for diesel, Saddle Creek's internal forecasts project that $4 a gallon has become the price floor. Prices may fall below that threshold for short periods, but they will quickly go back up and eventually head higher, according to the company's forecasts. "This is the new normal we're in," DelBovo said.
While Saddle Creek firmly believes in the path it's chosen, it recognizes that being a pioneer is a double-edged sword: It could put you in the pole position for years, or it could simply get you shot at first.
"This isn't for the faint of heart," DelBovo admitted. "And it's not for the guy who doesn't understand his costs very well."More articles by Mark B. Solomon
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