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S&P: Shale Surge, Low Prices Forcing 'New Reality' on Pipelines

The burgeoning development of shale gas plays in the United States "has changed the playing field for long-haul pipelines," diminishing the need to move natural gas along traditional west-to-east routes and leaving large stretches of pipeline underutilized, according to a new report from Standard & Poor's Ratings Services (S&P).

"Why get your gas all the way from the West when new sources are opening up right next door?" credit analyst Nora Pickens wrote in the S&P report "The Shale Gas Boom Is Shaping U.S. Gas Pipelines' New Reality."

Low natural gas prices and the shale gas glut are prompting a move away from long-haul pipelines that capitalize on price spreads between the Rockies and Gulf Coast and consuming regions, she said. "Instead, a pipeline's greatest value lies in being able to clear shipping bottlenecks and serve end-users with a reliable gas supply even when there's high market demand. Simply, there are limited opportunities to profit from once-volatile and wide geographic price spreads."

As a result, the business risk profiles of legacy long-haul pipelines are weakening. At the same time, demand-pull pipelines are likely to remain somewhat insulated from severe contract renewal disruptions and maintain their credit quality, according to the report.

Supply-push pipelines, on the other hand, "are more vulnerable to changing producer sentiment and the termination of once-lucrative transportation contracts," according to Pickens, who cited S&P's decision earlier this year to lower its corporate credit and senior unsecured debt ratings on Rockies Express Pipeline LLC (REX) to "BB" from "BBB-" (see NGI, Feb. 6). The decision was based on compressed basis differentials leading to increased recontracting risk in the years ahead. Fitch Ratings also recently cut the debt ratings on REX and revised its outlook on the pipeline's debt to "negative" from "stable" due to pushback from Marcellus and Utica shale gas supplies, which have cut the value of long-haul transportation capacity on REX from the Rockies to the East (see NGI, May 14).

S&P's decision to downgrade REX "reflected sustained lower natural gas price spreads, which heighten recontracting risk (primarily in 2019, and to a lesser extent in 2014), combined with the company's somewhat aggressive financial measures," Pickens said. "The recontracting risk could result in substantially lower cash flows when the vast majority of existing contracts expire in 2019 (with about 10% of capacity due in late 2014). The emergence of the Marcellus Shale, which is close to the markets REX currently serves, is diminishing the value of shipping gas west to east, although we recognize that the company could generate additional value by reversing the flow (east to west)."

While the overall need for long-haul infrastructure is somewhat limited, there are still "some attractive fee-based prospects," and "a handful of pipelines may be able to quickly adapt to changing gas flows by offering backhaul transportation," according to the report.

"They may also invest in relatively cheap upgrades, such as looping projects (building parallel pipes along existing routes) or compression units, to offer bidirectional services...The construction of small-scale pipelines over the next few years will add flexibility to the grid, and may ultimately put pressure on the least economical pipelines as shippers take advantage of new options and move gas along the most efficient routes available."

The pipeline sector's creditworthiness is broadly stable and "only a modest number of downgrades" are expected over the next two years, according to Pickens.

To illustrate how severe the collapse in the basis along Rockies Express has been, consider that Dominion Transmission traded at an average $3.27/MMBtu premium to Opal in 2008, the year before the REX East portion of the pipeline went into service, according to NGI Bidweek Survey data. Over the last 12 months, however, that basis has shrunk to an average of $0.49/MMBtu, and even fell to as low a nickel in February 2012.

The Mid-Atlantic has enjoyed less of a premium to the Gulf Coast as well. Dominion prices traded at an average $0.49/MMBtu premium to the Henry Hub in 2008, but have outpaced Henry deals by an average of just $0.06/MMBtu since July 2011.

The S&P report is available at www.globalcreditportal.com or by e-mail to research_request@standardandpoors.com.

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